A Time to Address Constraints

The annual sessions of the National People Congress (NPC) and the Chinese People's Political Consultative Conference (CPPCC) National Committee will be anything but ordinary. The typical endorsement of the annual work report of the government and the central and local budgets will be eclipsed by the approval of the 12th Five-Year Plan (2011-2015).

The new plan will roll out the main policy directions for further reform and development in the next five-year period. The document will also include quantitative targets on key economic, social, and environmental indicators, chief among them, GDP growth. As already announced by Premier Wen Jiabao, an annual growth target of 7 percent over the plan's duration has been set to ensure sustainable development.

The target is slightly lower than the 7.5 percent of the previous plan. The downward revision is numerically negligible, and in any event, given the superior rates of actual economic growth, is meant to highlight the government's efforts to sacrifice the speed of growth for the sake of its sustainability.

Critical among the plan's objectives is changing the growth pattern toward a more services and consumption driven model, away from the past emphasis on industrial production, capital investment and exports, which is necessary to address China's social, environmental and external imbalances.

Economic rebalancing was already a key objective in the previous plan, and some progress was achieved in specific areas (for example, curbing energy consumption and pollution, expanding healthcare coverage in urban and rural areas, and increasing public spending on research and development), but there has been limited progress on the overall rebalancing targets. For example, consumption has lagged substantially behind investment, while services have remained at a relatively low level of GDP in spite of their high potential for employment generation.

The need to transform the economic growth pattern is stronger now than it was five years ago, in part because the external imbalances have become more pronounced, and the recent global crisis has highlighted the risks of the export-led growth model.

But rebalancing is unlikely to occur in the absence of bolder policy adjustments. Some of the key policy areas requiring attention include shifting the emphasis of public spending from investment to public services, developing capital markets to help small- and medium-sized enterprises and the self-employed to access credit, facilitating greater private sector participation in the economy, and fiscal reform to strengthen local governments' sources of revenue.

These complex reforms are expected to be reflected to some degree in the new plan, so the challenge lies in how to successfully implement them. Moreover, the intended reforms, although necessary, are not risk-free, and may create or exacerbate policymaking trade-offs. For instance, promoting services as a source of growth and employment may entail undesired side effects in the short term. These include increased unemployment until the full benefits of the reforms unfold in the medium to longer term, when excess labor is absorbed through the implementation of adequate supportive policy measures (for example, investment in education, vocational training and safety nets).