To avoid the middle-income trap, China may need a predominantly rural labor force that thrives and excels in its affordable public education system so it can transition from a middle-income country relying on low-skill, low-wage jobs to a high-income country driven by technological innovation.
Introduction
Let’s begin by stating something that may sound controversial but certainly isn’t: a prosperous China is good for the world.
A prosperous China would mean it continues to be an engine of growth for the world economy by providing the world with ever-increasing technological innovation and growing demand from an increasingly larger consumer base. Vice versa, a struggling China would mean a detriment to the world economic growth, or, following what we know from Xi Jinping’s concentric circles, possibly worse.
In this blog post, I summarize the book “Invisible China,” published by the University of Chicago Press and authored by Rozelle S. and Hell N. The book’s central thesis is that China’s historical lack of focus on investing in human capital development at a rate that matches the economic growth will cause it to get stuck in the middle-income trap.
What is the Middle-Income Trap?
The middle-income trap is an economic concept coined by Indermit Gill and Homi Kharas in 2007 and later elaborated on by Homi Kharas and Harinder Kohli in 2011.
The idea is pretty simple. A country can develop from a low-income economy into a middle-income economy by making abundant and cheap labor available to the international market to attract low-skilled, low-wage manufacturing jobs. As foreign funds flow into the country, there’s job growth and economic growth, ultimately raising the country to a middle-income country.
The middle-income trap describes a country where economic growth fueled by low-wage labor finds itself less and less competitive as wages rise quicker than in other low-income countries. If the country does not sufficiently develop comparative advantages in high-tech or innovative products, it risks being uncompetitive with high-income countries. Thus, the country is trapped due to uncompetitive labor wages and uncompetitive technological innovation. This results in economic stagnation or even regression.
Graduating from the middle-income trap is difficult but not impossible. Several countries have been able to do so. But if we look closer at why they graduated, we can find several external factors that played a significant role.
Many European countries graduated after completing the process of European integration, essentially riding the coattails of already high-income economies. Similarly, certain former Soviet block countries managed to make the transition. However, these countries were wealthy before the iron curtain fell across Europe, and thus their transition could be considered a return to a previously held status.
Countries that graduated from the middle-income trap most similar to China include the Asian Tigers (Hong Kong, Singapore, South Korea, Taiwan), Ireland, and Israel. These countries did not benefit from tight economic integration with high-income nations or a history of high GDP.
Why Escaping the Middle-Income Trap is Important to China?
We can distill from Xi Jinping’s 10 Concentric Circles of Core Strategic Interest why escaping the middle-income trap is essential for China.
Assuming the underlying axiom of Xi Jinping’s leadership is that, to ensure a prosperous future for the Chinese people, the Communist Party of China must remain in power indefinitely. To ensure the Party’s survival, it understands that ensuring economic prosperity is fundamental to political legitimacy and national unity.
Now we can understand how important it is for China to escape the middle-income trap. Economic growth is not simply a desire for better living standards for the Chinese people. It is a prerequisite to the survival of the Party, which, according to its ideology, is a prerequisite to the survival of the Chinese people.
The Relationship Between Human Capital and the Middle-Income Trap
The authors describe a crucial data point to illustrate the importance between the development of human capital and escaping the middle-income trap: the share of the labor force with at least a high school education. This metric is a proxy for the labor skill level in an economy. A higher high school attainment rate would reflect a better-educated labor force that has acquired the skills required in a high-income, technological, innovative economy.
The data is not great for China. In 2020, only 37% of 25-64 year-olds had achieved at least an upper secondary qualification, compared to 83% on average across OECD countries. Of these, about half had achieved upper secondary education as their highest education attainment, while the remainder had completed a tertiary program.
As the authors point out in the book – where they mentioned 30% high school attainment in 2015 – that’s very similar to countries like Turkey, Mexico, Brazil, and South Africa which are trapped in the middle-income bracket. In contrast, by 1976, Taiwan’s secondary school enrollment rate was almost 70%.
The authors capture this idea powerfully on page 28 of the book: “[…] no country has ever made it to high-income status with high school attainment rates below 50%.” So, China today looks more like 1980s Mexico or Turkey than 1980s Taiwan or South Korea.
How China Got Here?
There are several contributing factors why China has low high-school attainment rate. For the purpose of this blog, I will only mention them briefly.
During the Mao era, the pursuit of academic excellence was highly discouraged. This is exemplified by the Cultural Revolution starting in 1966, which saw many intellectuals persecuted. Schools and universities closed, and many urban intellectuals were forced to move to the countryside to work on farms. I would recommend the opening chapters of the book “How the Farmers Changed China” for a first-hand account of this.
Following the death of Mao in 1976, the economy gradually opened up, fueled by the farmer’s desire to be in charge of their own destiny. We discussed this in a previous blog post. During the Deng period, a gradual process of opening up more toward a market-driven economy, many rural farmers migrated to the cities for a better life and better opportunities.
Long story short, young people had two choices to improve their living standards: pursue an academic career, join the CPC, and rise through its ranks, or find work in the city and gradually work their way up.
Here I want to briefly highlight the importance of the hukou household registration system in China. As I discussed in a previous blog post, Hukou links a person to a place of residence which is defined as either Urban or Rural. The registration is based on where your parents live. So you are born Urban or born Rural. The Hukou system has far-reaching consequences for your entire life as it prohibits you from going to certain schools or migrating to certain places.
The CPC has always favored the urban population by providing subsidies for food and goods and better living and working opportunities. The rural population was largely left to its own devices, certainly post-Mao. By this, I mean that the rural population had to figure out how to increase its living standards independently.
China’s infamous rural-urban migration is mind-blowing, with the number of migrants, mostly rural-to-urban migrants, increasing from 6.57 million in 1982 to 221.43 million in 2010.
Until recently, people in rural areas preferred to find a low-skill job in the city because (a) there were always plenty available, and (b) the wages continued to increase. However, the job growth trend has recently reversed, but the wages remain high relative to China’s low-cost labor neighbors such as Vietnam, Cambodia, or Indonesia.
To wrap up the story, one should consider that young rural parents have not considered education a primary driver for economic success. Therefore, it is less likely they will put their children’s education as the top priority. Government incentives will play a crucial role in turning this trend. In the book, you can find several examples of how the government is taking action already.
Everything considered, the situation looks dire. There are approximately 300 million rural migrants currently in the labor force who are first to suffer from a steady decline in low-skill job opportunities on which they depend to provide for their families. If we include the people in their families, perhaps 500 or 600 million people depend on these jobs. A large fraction of these migrants have no proper education and will have great difficulties pivoting to a high-skill job. They may also not be satisfied with the kind of income working in agriculture provides.
Other Factors: Quality of Human Capital Investment
So, we have established the following.
- It is crucial for the world economy and the Party that China can avoid the middle-income trap.
- It may need to follow the economic growth models from Israel, Ireland, South Korea, and Taiwan to do so. That means investing in human capital development at a rate that matches the economic growth to provide the population with the skill sets demanded in a high-income economy by the time it aims to transition from a middle-income country.
- Unfortunately, China’s rural population has largely ignored the importance of higher education in favor of benefiting from low-skill jobs and economic growth to provide for their families.
So, what can be done? There’s only one option: heavily invest in education. According to the authors, the central government is taking action to do exactly that. However, some barriers make this challenging.
I already discussed the structural barrier of the hukou system that prevents rural children from having access to the higher-quality urban school system.
Another barrier is time-related. Children born today who receive a complete education will only enter the labor force in 25 to 30 years. So, even if all the required changes would take effect today, China would only see the effect of this around 2050.
Of course, there’s the option to re-educate the current labor force. However, with most of the labor force never really learning how to prosper in an academic environment, that may prove more complex and less efficient than hoped.
Other important factors discussed in the book contribute to this challenging situation. Here’s a brief list:
- China’s rural infants raised in traditional family environments are not always given everything they need to develop healthy cognition. This leads to academic under-performance.
- China’s rural children sometimes lack health care and nutritional needs. These also lead to academic under-performance. Examples include access to glasses and the epidemic of anemia.
- The rural vocational high school system can improve its quality of education, ensuring that those students who choose further studies are equipped with the skill set demanded by the 21st-century high-income job market
- While the cost of the rural education system is significantly reduced already, it is often still a significant financial burden to rural families and hence a possible cause for children to drop out in favor of looking for work.
To transition from a middle-income country relying on low-skill, low-wage jobs to a high-income country driven by technological innovation, China may need a predominantly rural labor force that thrives and excels in its affordable public education system.