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Forward of China Entrepreneurs Business Environment Survey Report

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ChangCe Thinktank
Carefully reading what entrepreneurs and small business owners have to say regarding their operating environment is a good start to formulate the right policy initiatives.

 

 

Forward of China Entrepreneurs Business Environment Survey Report

Ted Chu

 

I thank the organizers of the China Business Conditions survey for giving me this opportunity to write a forward. Given that the Chinese economy is the world’s second largest economy and by far its greatest growth engine, I would like to put the survey results in the context of global economic performance and growth potential before discussing its policy implications.

How is the global economy today? There are many tentative improvements and signs of healing, but the overall situation has not met expectations. Five years after the worst recession in 70 years, global economic growth has slowed significantly after a burst of activities to climb out of the deep hole. In fact, if measured by the output slack relative to long-term growth trend, the robustness of global economy has deteriorated since 2010, with the output gap widening from 3 percent of GDP to nearly 5 percent in 2013, according to the latest report from the IMF, which has lowered GDP forecast for 2014 from 3.8 percent to 3.6 percent, its sixth consecutive downward revision. The surveys of other forecasters show a similar pattern.

The global picture is always complex, but in a simplified narrative, the slow growth is a result of both cyclical and secular forces. Most major economies around the world are still living through the consequences of the last business cycle and are getting weighed down by a number of long-term structural impediments to growth. The U.S. is still the world’s largest economy but has lost its status as the leading growth engine and is experiencing its worst growth slump since the Great Depression. Its recovery is hindered by the overhang of the housing bubble, as well as fiscal retrenchment. Even when these cyclical forces diminish, the U.S. economic growth is widely expected to stay at a permanent low level due to the slower pace of growth of its labor forces. The Eurozone is just beginning to emerge from its existential sovereign debt and banking crisis, and its demographic outlook is even worse. The United Kingdom’s economy is still struggling under heavy indebtedness and over-reliance on the financial sector. And despite modest growth recently, the Japanese economy is highly unlikely to sustain its momentum due to a rapidly shrinking labor force and impending fiscal adjustments.

Turning to the emerging markets, the outlook is not very optimistic, either. While the emerging markets are still poised to grow at a faster pace than the developed world structurally, actual performance over the last few years has been disappointing to say the least. The sluggish recovery in the developed world has limited the potential for export-driven growth, but the most important factors influencing growth are domestic. The impact of powerful fiscal stimuli put in place in 2009 and 2010 has long worn off and the resulting fiscal deficits have reduced the scope of further fiscal expansion. Growth bottlenecks are easy to identify but difficult to tackle, whether it is infrastructure in Brazil and India or external deficits in Indonesia and Turkey. The peaking of the commodity super cycle has also revealed the structural weakness in many countries dependent on commodity exports ranging from Russia to Australia, and particularly in some so-called frontier markets in Africa and Asia.

Amidst the backdrop of sluggish global economic outlook, it is no wonder that China has become the focus of attention. In recent years China has been the global growth automotive, particularly in areas such as commodity demand and luxury goods. Many of my fellow business economists expressed the opinion that as long as growth in China is healthy, the global economy should be ok. I believe there are many elements of truth in that statement. Yes, growth in China has slowed down from 10 percent to around 7 percent, but because the base is about 50 percent bigger than half a decade ago, every percentage point of growth translates into a significantly larger amount of output. This much is a no-brainer, but I would like to point out something more subtle: what China is doing to improve its economic structure will serve as a great example not only for other big emerging markets, but also increasingly for developed markets. Every country is holding its breath on whether China can continue its historical rise and regain its global prominence.

This timely survey of Chinese business “survival” condition is an excellent measure of China’s growth potential, complementing hard numbers such as the number of young people entering labor force or the length of paved roads. In a sense it is even more important than raw inputs into the economic system and the motivation of business owners to carry out their work and contribute to economic expansion since it largely determines the energy. I will not go into a lot of details here, but my overall impression is that business conditions in China are improving but still have plenty of room for further progress. For example, this survey shows that over half of Chinese businesses believe they face excessive government regulations and supervisions, while only 13% believe that’s not the case. Labor supply is becoming a big issue: only one in seven Chinese businesses believes they can find sufficient labor supply for their investment projects. The unfavorable treatment of private domestic businesses as compared with state-owned or foreign-owned enterprises is still a problem. In addition to disadvantages in scale, financing, technology, and human resources, about half of private domestic enterprises believe they are not receiving sufficient support from the government.

Reading through the survey report, I find an interesting parallel between business condition in China and the U.S. Whereas the most significant gap in China is the divide between the private and public business sector, the great divide in the U.S. is between small and large businesses. In both places, it is well known where the main source of job creation and economic initiatives is – small enterprises in the U.S. and domestic private enterprises in China. This survey and the survey of small business owners in the US (conducted by the National Federation of Independent Businesses) clearly show why growth has been sluggish and what we can do to improve business conditions.

In the U.S., issues that bother small businesses the most are rising healthcare costs, uncertainty about the economy, and uncertainty about economic policy. Rising healthcare costs have been one of the top concerns for 25 years, and the situation is not getting better. Uncertainty regarding economic uncertainty is a reflection of how deep the psychological scar is as a result of Great Recession in 2008/9, and is only expected to heal slowly. The uncertainty about economic policy, and complains about over-regulation, however, is something the government can work on and should work on. While many government rules and regulations are necessary, they are very costly for businesses, estimated to be $1.75 trillion in 2008, or more than $15,000 per household, according to economists Nicole and Mark Crain at Lafayette University. From January 1 through September 27 of 2013, federal agencies have issued 2,878 rules, and small businesses face a heavier regulatory burden compared with large ones and many of them simply don’t have the resources to deal with them. Back in 1986, “unreasonable governmental regulations” was only the 22nd most important problem small business owners faced. In 2008, it was sixth. Today, nearly half of the small business owners point to healthcare costs and unreasonable government regulations as reasons for not hiring new employees.

I sincerely hope the publication of such surveys will help highlight one of the major actionable items for the government around the world, not just for China and the U.S. While many economists and policy analysts point to lack of consumption as the key reason for sluggish economic growth in many countries, I believe today’s most pressing issue is lack of effective private sector investment. Other than depressed economies such as peripheral Eurozone, the recovery in consumption has been better than many expected. The consumer deleveraging process in the U.S. is near completion thanks to strongly rebounding net worth and returning of consumer confidence. Despite the emphasis of urgent need for China to transition from an investment-led growth to a consumption-led one, consumer spending has actually been fairly robust, largely keeping pace with overall GDP growth, given that the official statistics are most likely underestimates. Consumption in Japan is recovering, and there are clear indications that many emerging markets have under-invested and over-consumed, particularly in India and Brazil.

It is true that many businesses around the world still face lackluster consumer demand and uncertainty, but from a macreconomic perspective, this is a chicken-and-egg problem: consumption cannot grow sustainably without employment and income growth. It is also true that getting financing has been a problem for would be investment projects, but that is increasingly a problem diminished if not yet totally resolved, with the help of the easing of monetary policy and financial sector adjustments. Banking lending standards in the U.S. is back to pre-crisis norm, the Eurozone is working hard to restore the health of the banking sector, and it is highly encouraging to hear that over 60 percent of Chinese entrepreneurs believe ongoing financial sector reforms will be helpful for their investment financing. So for 2014 we should really shift our attention to tackle the long standing challenge of providing a favorable condition for businesses. Global national savings rate has rebounded in last three years to 25%, slightly exceeding the pre-crisis peak levels. With public sector’s ability to absorb excessive savings diminishing, private investment must pick up the slack.

With fiscal situation still challenging, it is hard to think about cutting taxes at this moment, but that’s something we must put on the policy agenda. This survey shows over 60% of Chinese business owners believe the tax burden is too high. In a recent comprehensive survey of U.S. small business owners regarding concerns about taxes, the issue of high federal taxes ranked #1 at nearly 30 percent, immediately followed by tax complexity. Tax compliance costs those small firms 3 times per employee what they cost the firm of 500 or more. In China, the increasing regulations and monitoring regarding environmental protection and clean government are necessary but implementations must take into consideration of minimizing the burden on small and private enterprises.

Finally, crafting the appropriate industrial policy will be critical in nurturing budding businesses and emerging industrial sectors. Whether the global economy can accelerate in coming years and close the gap between the actual and the potential will be critically dependent on the performance of major economies – first and foremost, the U.S. and China – whether they can revive private sector investment and boost employment and income growth. Fundamental structural reforms are needed to reverse the alarming trend of “state-sector forward, private-sector retreat” in China, and the decline of business start ups in America. Carefully reading what entrepreneurs and small business owners have to say regarding their operating environment is a good start to formulate the right policy initiatives.

 

Ted Chu

Professor of Practice, Economics

New York University - Abu Dhabi