As Chinese Leadership Changes, Economic Challenges Loom Large

China is changing its leadership at a time when its old economic model that produced double-digit growth has run into big problems.

For some three decades, the Chinese government has sought to lift the country out of poverty with massive investments in infrastructure and in state enterprises that produce goods for export.

That model has produced stunning successes, lifting some 500 million people -- or more than one-third of the country's population -- out of poverty. It also has transformed Chinese society, as 6 million people now graduate from Chinese universities every year and more than 500 million people use the Internet.

But today the economic news from China is less upbeat. The government announced this month that the growth rate slowed to 7.6 percent in the third quarter of 2012 -- the lowest rate since the global financial crisis that began in 2008. Beijing has set its target for GDP growth this year at just 7.5 percent, after years of an 8 percent goal that it often exceeded.

Many experts say the biggest economic problem China faces now is the very nature of its state-driven economic system. That system worked well when global demand for Chinese-manufactured products was high, but it now looks unbalanced when the global economy is weak.

Duncan Innes Ker, a China expert at the London-based Economics Intelligence Unit, says the key to future growth will be to boost the private sector.

"At the moment the banking sector essentially serves to finance the state-owned part of the economy and essentially starves the private sector of capital in favor of the state sector, which is a big problem, given that the state sector tends to be less productive, less jobs-generative, and overall less efficient than the private sector," Innes Ker says.

China's leaders have long said they want to foster economic growth in the coming years by growing the private sector, boosting domestic consumption, and diversifying exports. All are seen as keys to providing future growth and jobs.

But change has proven hard to make due to the vested interests within China's one-party, state-enterprise-heavy system.

Innes Ker says that China's new leadership has yet to reveal its priorities publicly. But it appears to favor a conservative approach.

"The balance does seem to be quite firmly in favor of conservatives, so it is possible that we may actually get a relatively timid approach to reform of the state sector and continuing [state] dominance of the commanding heights of the economy," Innes Ker says. "In that sort of circumstance, it may be that China's growth rates in the medium term might be even significantly lower than the 7 percent that we are expecting at the moment."

The current reliance on state-enterprises -- which dominate their sectors with little or no competition -- helps to create another drag on China's economy: corruption.

Anger At Corruption

Outgoing Chinese President Hu Jintao, speaking at the Communist Party Congress that ushered in a new leadership team, warned starkly that failure to tame corruption could lead to the "collapse of the party and the fall of the state."

Rod Wye, an expert on Chinese politics at Chatham House in London, says China's leaders are well aware of the public anger that corruption generates and that is why they have begun talking about it. But taking effective action is another matter.

"Corruption, as the Chinese leaders themselves say, is a life-and-death matter for the Chinese Communist Party. But the fact is that it is pretty endemic in China and it is not going to be easy to root it out in any short period of time," Wye says.

One example is China's railway system. Beijing has invested hundreds of billions of dollars in recent years to build a high-speed rail network across the country. Yet an investigation into a crash of one of its fast new trains in July 2011, which killed 40 people, revealed massive amounts wasted due to corruption. In just one small case, a big state-owned company paid a $16 million commission to an intermediary to secure contracts to work on the rail projects.

China faces a host of other challenges that could slow its economic growth in the future.

One is the dramatic aging of the Chinese population, accompanied by the shrinking of the country's workforce beginning in 2015. That is partly a consequence of the one-child policy adopted by the Communist Party in 1979 to stem population growth.

Kenneth Pomeranz, a professor of history at the University of Chicago, says changing demographics will soon present the Chinese leadership with some stark choices.

"Everybody can see that the very, very rapid graying of China's population -- already under way in part because they have had 40 years now of a very low birthrate -- is going to cause big problems," Pomeranz says. "They are going to make a pretty sudden transition from a society with a very high percentage of its population in the labor force to a society with a much lower percentage of the population in the labor force and more people who need to be supported."

That means China increasingly will have to find ways to work more efficiently with fewer people as the days of cheap mass labor end.

And then there is the problem of pollution.

China has achieved its industrial growth so far largely at the expense of its environment, to the point that today it is the world's biggest emitter of greenhouse gases.

But as public protests over the environmental and health effects begin to be seen, the country may have to invest more in cleaner technologies at the expense of simple investments in raw industrialization.

All of which could mean that China in the future will face many of the difficult challenges developed countries already face. How well it overcomes them will determine what kind of growth rate its next decades bring.