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    China Business
     Oct 21, 2010

Shaky foundations to China's growth
By Dalibor Rohac

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China has been going through a period of historically unique economic growth for more than 30 years. While a lot is known about the nature of the institutional reforms which were put in place by Deng Xiaoping and his successors, and which arguably triggered the expansion, the individual - or microeconomic - side of Chinese economic takeoff remains rather poorly understood.

Economic growth is not a product of abstract social forces, but results from creative efforts of countless entrepreneurs - individuals who risk their money and try to anticipate the best


ways to satisfy their customers. In order to shed some light on entrepreneurship in China, the London-based Legatum Institute has performed the first survey of Chinese entrepreneurs, asking more than 2,000 a wide range of questions about entrepreneurship and the business environment in China, and also about their motivations and the social dimensions of their work.

The survey provides an intriguing picture of the Chinese entrepreneurial class, with potentially serious implications for Chinese economic development. On the surface, Chinese entrepreneurs are optimistic about the future and confident about the direction in which China is developing. Moreover, they display high levels of social trust, with 72% saying that people can be trusted. The conviction that hard work can get one ahead financially is also widespread, with 66% of respondents adhering to this belief.

These findings give rise to a rather flattering picture of China. However, a closer inspection of the survey results reveals some cracks in the foundations of the country's economic growth. Firstly, corruption is a serious problem. Nine out of 10 entrepreneurs identify corruption as an obstacle to entrepreneurship and economic activity. Moreover, 69% of respondents claim that corruption has got worse over the past few years.

Secondly, unlike their Indian counterparts, Chinese entrepreneurs display a predominant reliance on formal, state-run mechanisms for the smooth functioning of their businesses. For instance, instead of using family savings (20%) for finance, Chinese entrepreneurs are primarily financed by traditional bank loans (34%). Aspiring businessmen often mention that they are inspired to become entrepreneurs by the pro-business policies of the government, while actual entrepreneurs identify the formal education they received at school or university as the main source of inspiration.

This is a stark contrast to the results of a similar survey conducted by the Legatum Institute in India, where local entrepreneurs have highlighted a much more important role played by family networks, family finance and by internal motivating factors, as opposed to factors directly related to government policies.

In principle, Chinese reliance on banks as their main sources of finance, on formal education and on government pro-business policies could be a healthy sign of a developed economy operating in a smooth-running institutional setting. However, the fact remains that the Chinese banking sector and state apparatus do not function as well as in economically advanced countries. This said, the overreliance of Chinese businessmen and entrepreneurs on government support and formal sources of finance might be a source of fragility, especially in situations when Chinese banks run into trouble and when the government's support of business is retracted.

The key difference between Chinese and Indian entrepreneurs, as captured by the Legatum survey, is that Indian entrepreneurship has developed in an institutional environment that was never particularly business-friendly. Indian entrepreneurs have relied mostly on factors outside of government support networks and formal banking systems to government support and formal banking system, to get ahead with their businesses. The result is an organic and robust entrepreneurial class, able to surmount negative institutional environments and weak infrastructures in a period of economic uncertainty.

After 30 years of staggering economic expansion, led by export-oriented, capital-intensive industries, China is overdue for an economic slowdown. Many commentators have noted that China has a significant excess of industrial capacity and has an undesirable real estate bubble, while its exports largely rely on a sustained undervaluation of the Chinese currency.

The question thus arises as to how China's entrepreneurs will weather what could be a major crisis, and how fast they will be able to adjust to an environment in which they might not be able to rely on an insatiable world demand for manufactured goods, government-provided investment incentives, and easily accessible bank loans.

Dalibor Rohac is a research fellow at Legatum Institute. He holds an MPhil from the University of Oxford, an MA from the George Mason University and a doctorate from the Charles University in Prague.

(Copyright 2010, Dalibor Rohac.)

Speaking Freely is an Asia Times Online feature that allows guest writers to have their say. Please click here if you are interested in contributing.

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