Order Code IB98014
CRS Issue Brief for Congress
Received through the CRS Web
China’s Economic Conditions
Updated July 7, 2003
Wayne M. Morrison
Foreign Affairs, Defense, and Trade Division
Congressional Research Service ˜ The Library of Congress

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CONTENTS
SUMMARY
MOST RECENT DEVELOPMENTS
BACKGROUND AND ANALYSIS
An Overview of China’s Economic Development
China’s Economy Prior to Reforms
The Introduction of Economic Reforms
China’s Economic Growth Since Reforms: 1979-2002
Causes of China’s Economic Growth
Measuring the Size of China’s Economy
China’s Trade Patterns
China’s Major Trading Partners
Major Chinese Trade Commodities
Economic Aspects of the SARS Epidemic in China
The Service Sector
Foreign Trade and Investment
Production and Employment
Public Finance
China’s Health Care System
Major Long-Term Challenges Facing the Chinese Economy
Major Issues in China-U.S. Economic Relations
China’s Accession to the World Trade Organization
China’s Normal Trade Relations Status
Outlook for China’s Economy

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China’s Economic Conditions
SUMMARY
Since the initiation of economic reforms
cant impact on China’s economy. The level of
in 1979, China has become one of the world’s
Chinese trade protectionism will be greatly
fastest growing economies. From 1979-2002,
diminished over then next few years, and
China’s real annual GDP averaged 9.3%; it
nearly all sectors of China’s economy (includ-
rose by 8.0% in 2002. Many economists
ing agriculture, manufacturing, and services)
speculate that China could become the world’s
will increasingly be subject to great competi-
largest economy at some point in the near
tion. Several of China’s heavily protected
future, provided that the government is able to
industries, such as autos, and certain agricul-
continue and deepen economic reforms, par-
tural sectors, could be negatively affected by
ticularly in regards to its efficient state-owned
China’s WTO membership. China’s labor-
enterprises (SOEs) and state banking system.
intensive industries, especially textiles and
Progress in reforming these sectors in recent
apparel, will likely benefit significantly with
years has been somewhat mixed.
China’s WTO accession. A major challenge
for the government is to develop an adequate
After many years of difficult negotia-
social safety net to assist laid-off workers.
tions, China became a member of World
Trade Organization (WTO) on December 11,
China’s economy remained relatively
2001. WTO accession commits China to
healthy in 2002, despite economic slowdowns
significantly reducing a wide variety of tariff
in other parts of the world. Foreign invest-
and non-tariff barriers over the next few years
ment continued to pour into China, and the
Shortly afterwards, President Bush extended
Chinese government effectively used public
permanent normal trade relations (PNTR)
spending to boost the economy. However,
status to China. Previously, normal trade
painful economic reforms will be necessary to
relations status had to be extended on an
keep the economic strong in 2003 and beyond.
annual basis.
In addition, the recent outbreak of a very
contagious virus called Severe Acute Respira-
If fully implemented, the terms of Chi-
tory Syndrome (SARS) in China appears to
na’s WTO accession will likely have a signifi-
have had a short-term negative impact on the
Chinese economy.
Congressional Research Service ˜ The Library of Congress

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MOST RECENT DEVELOPMENTS
On June 23, 2003, the World Health Organization dropped China and Hong Kong from
a list of countries it had issued travel warning for, due to the outbreak of a contagious virus
called Severe Acute Respiratory Syndrome (SARS). However, the virus caused disruptions
in a number of Chinese industries, especially tourism.
On April 17, 2003, China reported that real GDP increased by 9.9% in the first quarter
of 2003 over the same period in 2002.
On January 9, 2003, the United Nations reported that in 2002, China had replaced the
United States as the world’s largest recipient of foreign direct investment.
BACKGROUND AND ANALYSIS
An Overview of China’s Economic Development
China’s Economy Prior to Reforms
Prior to 1979, China maintained a centrally planned, or command, economy. A large
share of the country’s economic output was directed and controlled by the state, which set
production goals, controlled prices, and allocated resources throughout most of the economy.
During the 1950s, all of China’s individual household farms were collectivized into large
communes. To support rapid industrialization, the central government during the 1960s and
1970s undertook large-scale investments in physical and human capital. As a result, by 1978
nearly three-fourths of industrial production was produced by centrally controlled state-
owned enterprises (SOEs) according to centrally planned output targets. Private enterprises
and foreign invested firms were nearly non-existent. A central goal of the Chinese
government was to make China’s economy relatively self-sufficient. Foreign trade was
generally limited to obtaining only those goods that could not be made or obtained in China.
Government policies kept the Chinese economy relatively stagnant and inefficient,
mainly because there were few profit incentives for firms and farmers, competition was
virtually nonexistent, and price and production controls caused widespread distortions in the
economy. Chinese living standards were substantially lower than those of many other
developing countries. The Chinese government hoped that gradual reform would
significantly increase economic growth and raise living standards.
The Introduction of Economic Reforms
Beginning in 1979, China launched several economic reforms. The central government
initiated price and ownership incentives for farmers, which enabled them to sell a portion of
their crops on the free market. In addition, the government established four special economic
zones for the purpose of attracting foreign investment, boosting exports, and importing high
technology products into China. Additional reforms followed in stages that sought to
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decentralize economic policymaking in several economic sectors, especially trade.
Economic control of various enterprises was given to provincial and local governments,
which were generally allowed to operate and compete on free market principles, rather than
under the direction and guidance of state planning. Additional coastal regions and cities
were designated as open cities and development zones, which allowed them to experiment
with free market reforms and to offer tax and trade incentives to attract foreign investment.
In addition, state price controls on a wide range of products were gradually eliminated.
China’s Economic Growth Since Reforms: 1979-2002
Since the introduction of economic reforms, China’s economy has grown substantially
faster than during the pre-reform period (see Table 1). Chinese statistics show real GDP
from 1979 to 2002 growing at an average annual rate of 9.3%, making China one of the
world’s fastest growing economies. The World Bank estimates that China’s economic
reforms have raised nearly 200 million people out of extreme poverty. The Chinese
government estimates that real GDP rose by 8.0% in 2002.
Table 1. China’s Average Annual Real GDP Growth Rates: 1960-2002
Time Period
Average Annual % Growth
1960-1978 (pre-reform)
5.3
1979-2002 (post-reform)
9.3
1990
3.8
1991
9.3
1992
14.2
1993
13.5
1994
12.7
1995
10.5
1996
9.7
1997
8.8
1998 7.8
1999 7.1
2000
8.0
2001 7.3
2002 8.0
Source: Official Chinese government data.
Causes of China’s Economic Growth
Economists generally attribute much of China’s rapid economic growth to two main
factors: large-scale capital investment (financed by large domestic savings and foreign
investment) and rapid productivity growth. These two factors appear to have gone together
hand in hand. Economic reforms led to higher efficiency in the economy, which boosted
output and increased resources for additional investment in the economy.
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China has historically maintained a high rate of savings. When reforms were begun in
1979, domestic savings as a percentage of GDP stood at 32%. However, most Chinese
savings during this period were generated by the profits of SOEs, which were used by the
central government for domestic investment. Economic reforms, which included the
decentralization of economic production, led to substantial growth in Chinese household
savings (which now account for half of Chinese domestic savings). As a result, savings as
a percentage of GDP has steadily risen; it was 40.1% in 2001, among the highest savings
rates in the world.
China’s trade and investment reforms and incentives led to a surge in foreign direct
investment (FDI), which has been a major source of China’s capital growth. Annual utilized
FDI in China grew from $636 million in 1983 to nearly $53 billion in 2002. It is estimated
that there are over 420,000 foreign-funded enterprises in China, with a cumulative level of
FDI of $448 billion. FDI in China in 2002 grew by nearly 13%, an impressive figure
considering that worldwide FDI in developing countries fell by over 25%, according to the
United Nations Conference on Trade and Development. Analysts predict that FDI will
continue to pour into China as investment barriers are reduced under China’s WTO
commitments and Chinese demand for imports continue to increase. The United Nations
estimates that in 2002, China replaced the United States as the world’s largest recipient of
FDI. The Chinese government predicts that FDI will reach over $100 billion by 2006.
Nearly half of FDI in China has come from Hong Kong. The United States is the
second largest investor in China, accounting for 8.9% ($45.9 billion) of total FDI in China
from 1979 to 2002 (see Table 2). U.S. FDI in China for 2002 was $4.4 billion, accounting
for 10.2% of FDI for that year. U.S. FDI in China in 2002 was over 22% higher than 2001
levels, while Taiwan’s FDI increased by over 33%.
Table 2. Major Foreign Investors in China: 1979-2002
($ billions and % of total)
Cumulative Utilized FDI:
Utilized FDI in 2002
1979-2002
Country
% Change
Amount
Amount
% of Total
% of Total
Over 2001
($billions)
($billions)
Levels
Total
448.2
100.0
52.7
100.0
12.5
Hong Kong
205.6
45.9
17.9
34.0
-6.4
United States
39.8
8.9
5.4
10.2
22.3
Japan
36.6
8.2
4.2
8.0
-3.7
Taiwan
33.2
7.4
4.0
7.6
33.2
Singapore
15.3
3.3
2.3
6.3
8.9
Source: Chinese government statistics. Top 5 investors according to cumulative FDI from 1979-2002.
Several economists have concluded that productivity gains (i.e., increases in efficiency
in which inputs are used) were another major factor in China’s rapid economic growth. The
improvements to productivity were largely caused by a reallocation of resources to more
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productive uses, especially in sectors that were formally heavily controlled by the central
government, such as agriculture, trade, and services. For example, agricultural reforms
boosted production, freeing workers to pursue employment in more productive activities in
the manufacturing sector. China’s decentralization of the economy led to the rise of non-
state enterprises, which tended to pursue more productive activities than the centrally
controlled SOEs. Additionally, a greater share of the economy (mainly the export sector)
was exposed to competitive forces. Local and provincial governments were allowed to
establish and operate various enterprises on market principles, without interference from the
central government. In addition, FDI in China brought with it new technology and processes
that boosted efficiency.
Measuring the Size of China’s Economy
The actual size of the China’s economy has been a subject of extensive debate among
economists. Measured in U.S. dollars using nominal exchange rates, China’s GDP in 2001
was about $1.2 trillion; its per capita GDP (a commonly used living-standards measurement)
was $875. Such data would indicate that China’s economy and living standards were
significantly lower than those of the United States and Japan, considered to be the number
one and number two largest economies, respectively (see Table 3).
Many economists, however, contend that using nominal exchange rates to convert
Chinese data into U.S. dollars substantially underestimates the size of China’s economy.
This is because prices in China for many goods and services are significantly lower than
those in the United States and other developed countries. Economists have attempted to
factor in these price differentials by using a purchasing power parity (PPP) measurement,
which attempts to convert foreign currencies into U.S. dollars based on the actual purchasing
power of such currency (based on surveys of the prices of various goods and services) in each
respective country. This PPP exchange rate is then used to convert foreign economic data
in national currencies into U.S. dollars.
Because prices for many goods and services are significantly lower in China than in the
United States and other developed countries (while prices in Japan are higher), the PPP
exchange rate raises the estimated size of Chinese economy to about $5.6 trillion,
significantly higher than Japan’s GDP in PPPs ($3.5 trillion), and about half the size of the
U.S. economy. PPP data also raise China’s per capita GDP to $4,300. The PPP figures
indicates that, while the size of China’s economy is substantial, its living standards fall far
below those of the U.S. and Japan. The International Monetary Fund estimates that (using
PPP measurements) China could surpass the United States as the world’s largest economy
as early as the year 2007. Yet, even if that were to occur, it would take China significantly
longer to achieve U.S. standard of living levels.
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Table 3. Comparisons of U.S., Japanese, and Chinese GDP and Per
Capita GDP In Nominal U.S. Dollars and PPP: 2001
Nominal GDP
GDP in PPP
Nominal Per
Per Capita GDP
Country
($Billions)
($Billions)
Capita GDP
in PPP
U.S.
10,082
10,082
36,300
36,300
Japan 4,148
3,450
32,636
27,200
China
1,179
5,560
923
4,300
Sources: DRI-WEFA, Country Outlook, First Quarter, 2002 and CIA, World Factbook.
Note: PPP data for China should be interpreted with caution. China is not a fully developed market economy;
the prices of many goods and services are distorted due to price controls and government subsidies.
China’s Trade Patterns
Economic reforms have transferred China into a major trading power. Chinese exports
rose from $14 billion in 1979 to $326 billion in 2002, while imports over this period grew
from $16 billion to $295 billion (see Table 4). China is currently the world’s 6th largest
trading nation (based on 2001 data). Despite the worldwide economic slowdown, China’s
exports in 2002 rose by 22.3%, while imports grew by 21.2%.
Historically, China has run trade deficits in some years and surpluses in others.
However, over the past 9 years, China has run trade surpluses; in 2002 that surplus was $30.5
billion. Merchandise trade surpluses and large-scale foreign investment have enabled China
to accumulate the world’s second largest foreign exchange reserves, estimated to have
reached $243 billion in June 2002.
Table 4. China’s Merchandise World Trade: 1979-2002
($ billions)
Exports
Imports
Trade Balance
1979
13.7
15.7
-2.0
1980
18.1
19.5
-1.4
1981
21.5
21.6
-0.1
1982
21.9
18.9
2.9
1983
22.1
21.3
0.8
1984
24.8
26.0
-1.1
1985
27.3
42.5
-15.3
1986
31.4
43.2
-11.9
1987
39.4
43.2
-3.8
1988
47.6
55.3
-7.7
1989
52.9
59.1
-6.2
1990
62.9
53.9
9.0
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Exports
Imports
Trade Balance
1991
71.9
63.9
8.1
1992
85.5
81.8
3.6
1993
91.6
103.6
-11.9
1994
120.8
115.6
5.2
1995
148.8
132.1
16.7
1996
151.1
138.8
12.3
1997 182.7
142.2
40.5
1998
183.8
140.2
43.6
1999 194.9
165.8
29.1
2000 249.2
225.1
24.1
2001 266.2
243.6
22.6
2002 325.6
295.2
30.4
Source: International Monetary Fund, Direction of Trade Statistics and official Chinese statistics.
China’s Major Trading Partners
China’s trade data often differ significantly from those of its major trading partners.
This is due to the fact that a large share of China’s trade (both exports and imports) passes
through Hong Kong (which reverted back to Chinese rule in July 1997, but is treated as a
separate customs area by most countries, including China and the United States). China
treats a large share of its exports through Hong Kong as Chinese exports to Hong Kong for
statistical purposes, while many countries that import Chinese products through Hong Kong
generally attribute their origin to China for statistical purposes.
According to Chinese trade
data, its top five trading partners in 2002 were Japan, the United States, Hong Kong, Taiwan,
and South Korea (see Table 5). Chinese data show the United States as China’s largest
destination for its exports and the fourth largest source of its imports.
Table 5. China’s Top 5 Trading Partners: 2002
($ billions)
China’s Trade
Country
Total Trade
Chinese Exports
Chinese Imports
Balance
Japan 102.0
48.5
53.5
-5.0
U.S.
97.2
70.0
27.2
42.8
Hong Kong
69.3
58.5
10.8
44.7
Taiwan
44.7
6.6
38.1
-31.5
S. Korea
34.1
15.5
28.6
-13.1
Source: Official Chinese trade data.
Note: Chinese data on its bilateral trade often differ substantially from the official trade data of other countries
on their trade with China.
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U.S. trade data indicate that the importance of the U.S. market to China’s export sector
is likely much higher than is reflected in Chinese trade data. Based on U.S. data on Chinese
exports to the United States (which, as noted, do not agree with Chinese data), and Chinese
data on total Chinese exports, it is estimated that Chinese exports to the United States as a
share of total Chinese exports grew from 15.3% in 1986 to an estimated 38.5.% in 2002.
A growing level of Chinese exports are from foreign funded enterprises (FFEs) in
China. According to Chinese data, about half of its trade in 2002 was conducted by FFEs.
A large share of these FFEs are owned by Hong Kong and Taiwan investors, many of whom
have shifted their labor-intensive, export-oriented, firms to China to take advantage of low-
cost labor. A significant share of the products made by such firms are exported to the United
States.
Major Chinese Trade Commodities
China’s abundance of cheap labor has made it internationally competitive in many low
cost, labor-intensive, manufactures. As a result, manufactured products comprise an
increasingly larger share of China’s trade. The share of Chinese manufactured exports to
total exports rose from 50% in 1980 to 90% in 2000, while manufactured imports as a share
of total imports rose from 65% to 84%. A large share of China’s manufactured imports are
comprised of intermediates (e.g., chemicals, electronic components, and textile machinery)
used in manufacturing products in China.
Major Chinese imports in 2001 included mechanical and electrical equipment, high tech
products, electronic integrated circuits and components, crude oil, plastics (see Table 6).
China’s major 2002 exports included mechanical and electrical products, high tech products,
clothing, textiles, and computers (see Table 7).
Table 6. Major Chinese Imports: 2002
Commodity
Total
% of Total
% Change
($Billions)
Imports
Over 2002
Levels
Mechanical & electrical products
120.5
40.8
29.1
High-tech products
64.1
21.7
29.2
Integrated circuit & electronic components
16.6
5.6
54.6
Crude oil
11.7
4.0
9.4
Primary plastics
11.7
4.0
13.7
Total top 5
224.6
76.1
— .
Source: Official Chinese trade data.
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Table 7. Major Chinese Exports: 2002
Total
% of Total
% Change over
Commodity
($Billions)
Exports
2001 Levels
Mechanical & electrical products
118.8
36.5
32.3
High tech products
46.5
14.3
46.1
Clothing and accessories
36.6
11.1
12.7
Textile yarn, fabrics, and their products
16.8
5.2
22.2
Automatic data processing machines
8.0
2.5
64.4
(computers)
Total top 5
226.7
69.6
—
Source: Official Chinese trade statistics.
Economic Aspects of the SARS Epidemic in China
SARS, a new and deadly disease, is believed to have originated in Guangdong Province
in China around November 2002. It soon spread to other regions and subsequently to 17
countries (by mid-April 2003). Initially, the Chinese government claimed that it had SARS
under control, but later admitted (on April 5, 2003) that the outbreak of the disease was far
more serious than it had previously admitted. Chinese officials subsequently pledged closer
cooperation with international health agencies, such as the World Health Organization
(WHO), to fight the disease. The WHO estimated that by May 14, 2003, there were 5,124
SARS cases in China and 267 SARS-related deaths.
The economic effects of the spread of the SARS epidemic appears to have begun to
occur in March 2003 and intensified after the WHO issued warnings on April 7, 2003,
against nonessential travel to Guangdong Province and on April 16, 2003 against
nonessential travel to Beijing and Shanxi Province. Another blow came when the Chinese
government admitted on April 20, 2003, that the spread of the SARS virus was far more
extensive than it had previously admitted. The immediate effect of these events was a sharp
drop in air travel to and from China followed by widespread cancellations by foreigners of
tours and hotel reservations. Next, many foreign business representatives postponed trips to
China. A number of international meetings, exhibitions, conferences and sporting events
were, and have been, cancelled. Fears over the disease began affecting consumer spending
in many cities, as individuals sought to avoid crowded areas, such as shops and restaurants.
In Beijing, recreational facilities, such as movie houses and health clubs, were ordered shut
down in several cities by the government in order to contain the virus.
The cumulative or long-term economic effects of SARS on the Chinese economy are
difficult to predict since there are no clear indicators when the virus will be effectively
eradicated or controlled (as new outbreaks could still occur) and because fear of the disease
has had a much bigger impact on economic activity than has the cost of responding to the
virus. It will also take time before the effects of the virus will be reflected in economic data.
Restoring normal economic activity in China will thus depend, not only on the ability of the
Chinese government to check the virus, but also its ability to convince its population as well
as foreign businesspeople that it has in fact contained the virus. Projections of the economic
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effects of SARS on China’s real GDP in 2003 range from -0.2% by the International
Monetary Fund (assuming SARS lasts one quarter) to -1.2% by China’s State Council (if
SARS lasts the entire year).
The Service Sector. Tourism appears to have been one of the hardest hit economic
sectors in China. Foreign tourism accounted for 1.5% of GDP in 2001, while domestic travel
accounted for 3.7% of GDP. The SARS virus led to a sharp drop in foreign travel to China
in April-May, while domestic travel during the May Day holidays was significantly curtailed.
This in turn has impacted service industries catering to foreign tourists, foreign business
travelers, and domestic travelers, such as hotels, restaurants, caterers, tour companies, and
local vendors. Chinese statistics indicate that the number of stay-over tourists fell by 42%
in April 2003 over April 2002 levels. In Beijing, the number of tourists dropped by nearly
94% in May 2003 over May 2002 levels; hotel occupancy rates of 5-star hotels reportedly
fell to 20% and some were at zero. A group of scholars from the Peking University predicted
that SARS would cost China’s tourism industry about $16.9 billion. China Southern Airlines
reported that its passenger traffic in May fell 83% year on year. According to the Official
Airline Guide (OAG), a leading source of information on international flight schedules, the
number of planned flights to and from China in June 2003, has fallen by 45% compared with
June 2002, and the number of planned flights within China has fallen by 15%. The Chinese
government reported that national retail sales in May rose by 4.3% year on year, the lowest
growth in 5 years; in Beijing retail sales for the month fell by 9.6%.
Foreign Trade and Investment. China’s most recent data on foreign trade show
little signs that SARS has begun to slow China’s rapid trade growth. In 2002, exports and
imports grew by 22.3% and 21.2%, respectively. China reported that exports in May 2003
were up 37.3% over 2002 levels, while imports were up 40.9%. For January-May 2003
exports and imports up 34.3% and 45.5%, respectively. However, analysts warn that the
effects of SARS will likely show up in later data due to a decline in export orders that has
occurred, largely because buyers have put off visiting China to place their orders. For
example, one of China’s largest bi-annual trade fair in Guangzhou (Guangdong Province)
was closed down after four days (on April 19th) due to SARS. The dollar level of purchase
contracts signed ($3.3 billion) reportedly was equal to less than one-fifth of last year’s total
($18.5 billion). Guangdong (which was one of the most affected provinces from SARS) is
China’s largest provincial exporter, accounted for 37% of China’s exports in 2002. Credit
Suisse First Boston estimates that SARS has reduced orders for Chinese exporters by 10-
15%. Because it generally takes three to six months lag time between export orders and their
production and delivery, the negative effects of SARS on China’s exports is likely to be
reflected in third and fourth quarter 2003 trade data.
FDI continues to show rapid growth in 2003. From January to May 2003, actual FDI
in China rose by 48.2%, while contractual investment grew by 42.2%, over January-May
2002 levels. However, contractual investment in May 2003 increased by only 17.6% year
on year. This could be an indication that the sharp reduction in foreign business
representatives visiting China due to SARS may have begun to affect the number of new
contracts being signed, which could result in a slowdown in the level of actual FDI going to
China in 2003. Credit Suisse First Boston estimates that SARS will reduce FDI in China by
$3 billion in 2003 and $4-6 billion in 2004. The longer term outlook for FDI in China is
unclear. Some analysts argue that the lack of transparency and poor health care system may
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undermine investor confidence in China, while others contend that China’s large, low cost,
labor supply will continue to attract large amounts of FDI.
Production and Employment. Little information has surfaced about the
employment and effects of SARS. Press reports indicate that only a few foreign firms in
China have experienced production disruptions due to SARS. Analysts warn, however, that
precautions taken to avoid spread of the virus and delays in visits to China by foreign
business representatives will interfere with work and deliveries. In addition, several foreign
companies are delaying the launching of new products, opening new plants, or starting new
joint ventures. Export Development Canada contends that SARS has had a serious impact
on millions of small-and medium-sized enterprises One possible indicator of a possible
production slowdown is the latest figure on industrial output, which grew by 13.7% in May
2003 over May 2002 — this was the lowest monthly year on year increase since August
2002. One major group that has been acknowledged by Chinese officials to have likely been
significantly affected by SARS is China’s large migrant worker population, estimated to
number over 80 million people. According to Chinese government estimates, 5.5 million
migrant workers fled urban areas because of SARS. The exodus has led to labor shortages
in some cities, but the main impact is expected to be on rural incomes (as many migrant
workers transmit part of their incomes back home). China’s Xinhua News Agency reported
that migrant workers could lose $4.8 billion by the end of the year, and that rural incomes
would fall by 1.5 to 2.0 percentage points, due to SARS.
Public Finance. The SARS virus will likely have a significant effect on China’s
public finance system. First, tax revenues have likely fallen from the effects of SARS on
economic activities. A Chinese government tax official estimates that SARS will cost the
government $2.4 to $3.6 billion in lost revenues. Secondly, the government has pledged to
provide extensive tax incentives, tax cuts and fee reductions (estimated at costing the
government $1.2 to $2.4 billion) for sectors most affected by SARS. Thirdly, the Chinese
government has pledged to spend $725 million to fight SARS (including providing free
medical services to needy farmers and urban workers) and an additional $423 million to
improve nationwide health care coverage. Finally, many analysts predict that China will
attempt to boost government spending, such as on infrastructure development, in order to
offset the negative affects of SARS. These factors will likely put new strains on central and
provincial budgets. According to the World Bank, China’s growing public debt, which as
a share of GDP has risen from 11.4% in 1997 to 25.3% in 2002, is hampering the ability of
the government to devote resources to social sectors.
China’s Health Care System. The SARS contagion has focused new attention on
China’s public health system for a variety of reasons. First has been concern that the lack
of a comprehensive health care system could allow contagious diseases, such as SARS, to
spread throughout the country unchecked. This was especially of concern when millions of
migrant workers returned home due to the SARS outbreak who, if left unchecked, might
have spread the virus throughout China, resulting in a social and economic disaster.
Secondly, the spread of SARS has raised new concern over the growing disparity in health
care insurance and services available to urban and rural workers. The lack of health care for
many workers has also raised concerns that it could undermine China’s attraction as a
destination for FDI (i.e., if foreign investors perceive that China cannot effectively deal with
contagious epidemics, and that their operations in China could be easily disrupted as workers
get sick, they may be more reluctant to invest in China). Finally, a number of Chinese and
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foreign analysts contend that the poor state of China’s health care system poses a long-term
threat to China’s future economic development.

Major Long-Term Challenges Facing the Chinese
Economy
China’s economy has shown remarkable economic growth over the past several years,
and many economists project that it will enjoy fairly healthy growth in the near future. DRI-
WEFA, a private international forecasting firm, projects China’s GDP will grow at an
average annual rate of over 7.0% over the next several years. At this rate, China would be
able to double its GDP every 10 years. However, economists caution that these projections
are likely to occur only if China continues to make major reforms to its economy. Failure
to implement such reforms could endanger future growth.
! State-owned enterprises (SOEs), which account for about one-quarter of
Chinese industrial production and employ nearly two-thirds of urban
workers, put an increasingly heavy strain on China’s economy. Over half
are believed to lose money and must be supported by subsidies, mainly
through state banks. Government support of unprofitable SOEs diverts
resources away from potentially more efficient and profitable enterprises.
In addition, the poor financial state of many SOEs makes it difficult for the
government to reduce trade barriers out of fear that doing so would lead to
wide-spread bankruptcies of many SOEs.
! The banking system faces several major difficulties due to its financial
support of SOEs and failure to operate solely on market-based principles.
China’s banking system is regulated and controlled by the central
government, which sets interest rates and attempts to allocate credit to
certain Chinese firms. The central government has used the banking system
to keep afloat money-losing SOEs by pressuring state banks to provide low
interest loans, without which a large share of the SOEs would likely go
bankrupt. Currently, over 50% of state-owned bank loans now go to the
SOEs, even though a large share of loans are not likely to be repaid. The
high volume of bad loans now held by Chinese banks (estimated to total
$250 billion) poses a serious threat to China’s banking system. Three out
of the four state commercial banks are believed to be insolvent. The
precarious financial state of the Chinese banking system has made Chinese
reformers reluctant to open its banking sector to foreign competition
Corruption poses another problem for China’s banking system because loans
are often made on the basis of political connections. This system promotes
widespread inefficiency in the economy because savings are generally not
allocated on the basis of obtaining the highest possible returns.
! China’s agricultural system is highly inefficient due to government
policies that seek to maintain a 95% self-sufficiency rate in grains, mainly
through the extensive use of subsidies and restrictive trade barrier. These
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policies divert resources from more productive economic sectors and keep
domestic prices for many agricultural products above world prices.
! Infrastructure bottlenecks, such as inadequate transportation and energy
systems, pose serious challenges to China’s ability to maintain rapid
economic growth. China’s investment in infrastructure development has
failed to keep pace with its economic growth The World Bank estimates
that transportation bottlenecks reduce China’s GDP growth by 1% annually.
Chronic power shortages are blamed for holding China’s industrial growth
to 80% of its potential. Transportation bottlenecks and energy shortages
also add inflationary strains to the economy because supply cannot keep up
with demand.
! The lack of the rule of law in China has led to widespread government
corruption, financial speculation, and mis-allocation of investment funds.
In many cases, government “connections,” not market forces, are the main
determinant of successful firms in China. Many U.S. firms find it difficult
to do business in China because rules and regulations are generally not
consistent or transparent, contracts are not easily enforced, and intellectual
property rights are not protected (due to the lack of an independent judicial
system). The lack of rule of law in China limits competition and
undermines the efficient allocation of goods and services in the economy.
In addition, the Chinese government does not accept the concept of private
ownership of land and assets in China
! A wide variety of social problems have arisen from China’s rapid
economic growth and extensive reforms, including pollution, a widening of
income disparities between the coastal and inner regions of China, and a
growing number of bankruptcies and worker layoffs. This poses several
challenges to the government, such as enacting regulations to control
pollution, focusing resources on economic development in the hinterland,
and developing modern fiscal and tax systems to address various social
concerns (such as poverty alleviation, education, worker retraining,
pensions, and social security). In addition to SARS, China faces a series
HIV/AID crisis. A 2002 report by the United Nations stated that China was
on the verge of “catastrophe that could result in unimaginable suffering,
economic loss and social devastation,” due to the rapid rise of HIV/AIDS in
China.
Major Issues in China-U.S. Economic Relations
China’s growth as a major economic and trading power has expanded U.S.-China
commercial ties, although disputes have arisen over a number of issues, such as trade
investment barriers, China’s most-favored-nation (MFN), or normal trade relations (NTR),
status, and the terms for China’s accession to the World Trade Organization (WTO). The
World Bank projects that by the year 2020, China will be the world’s second largest trading
economy after the United States. China’s continued rapid growth has increased concerns
among U.S. policymakers that China’s trade regime must be brought in compliance with
multilateral rules to ensure that U.S. firms are given access to China’s growing markets.
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China’s Accession to the World Trade Organization
China has made its accession to the World Trade Organization (WTO) a major priority.
On November 15, 1999, U.S. and Chinese officials reached a bilateral agreement on China’s
WTO bid. China completed its bilateral WTO negotiations when it signed an agreement
with Mexico on September 13, 2001, the last of the 37 WTO members that had requested
such an accord. On September 17, 2001, China completed negotiations with the WTO
Working Party handling its WTO application. China’s WTO membership was formally
approved by the WTO on November 10, 2001, and on November 11, China informed the
WTO that it had ratified the WTO agreements. As a result, China officially joined the WTO
on December 11, 2001.
China’s Normal Trade Relations Status
On July 22, 1998, President Clinton signed into law P.L. 105-206 (a bill to reform the
Internal Revenue Service), which contained a provision replacing the term “most-favored
nation (MFN) status” with the term “normal trade relations” (NTR) in U.S. trade law. This
change was made to help dispel the belief of some that the term “MFN status” indicates a
preferential trade status, when in fact it indicates the trade status afforded by the United
States to all but a handful of countries. Prior to January 2002, U.S. law (Title IV of the 1974
Trade Act, as amended) required China’s NTR status to be renewed on an annual basis
(based on freedom-of-emigration requirements of the Jackson-Vanik amendment).
From 1980 (when NTR status was restored to China after being suspended in 1951) to
1989, the renewal of China’s NTR status was relatively noncontroversial and was relatively
unopposed by Congress. However, congressional concern over the Tiananmen Square
incident in 1989 and subsequent crackdown on human rights led many Members to support
legislation terminating the extension of China’s NTR status or to condition that status on
additional requirements, mainly dealing with human rights. While none of these measures
were enacted, many Members sought to use the annual renewal of China’s NTR status as a
focal point to express concerns, as well as to pressure the executive branch, over a wide
range of Chinese trade (e.g., trade barriers and failure to protect intellectual property rights)
and non-trade (e.g., human rights, prison labor, Taiwan security, and weapons proliferation)
issues. Several members opposed such linkage, arguing that it had little effect on Chinese
policies, and that the often rancourous congressional debate over China’s trade status
undermined long-term U.S.-Chinese relations and added uncertainty to the trade relationship.
In order to ensure that the WTO agreements would apply between the United States and
China once China gained admittance to the WTO, Congress passed legislation (H.R. 4444,
P.L. 106-286) granting authority to the President to extend permanent normal trade relations
(PNTR) status to China upon its entry to the WTO. (Additionally, the law contains a number
of provisions dealing with such issues as human rights, Chinese prison labor exports, and
Chinese compliance with WTO rules.) On December 27, 2001, President Bush issued a
proclamation extending PNTR status to China, effective January 1, 2002.
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Outlook for China’s Economy
The short term outlook for the Chinese economy is difficult to predict, due largely to
uncertainties over the current state of the global economy, as well as the uncertainties over
the cumulative or long-term economic effects of SARS on the Chinese economy. Restoring
normal economic activity in China will depend, not only on the ability of the Chinese
government to keep the virus in check, but also the government’s ability to convince its
population as well as foreign businesspeople that it has in fact contained the virus. Some
medical experts warn that SARS could flare up again during the winter time.
China’s economy has held up remarkably well in the face of economic slowdowns in
the United States and its other major trading partners. Foreign investment has continues to
pour into China, which has helped boost Chinese exports. In addition, the Chinese
government has continued a policy of boosting the economy through public spending. As a
result, China’s real GDP is projected to rise by around 7.8% in 2003. Long term growth
will be largely determined by the government’s ability to reform the SOEs to make them
profitable, and to reform the banking system to make it more responsive to market forces.
China’s efforts to join the WTO appear to represent a major commitment on the part of
the Chinese government to significantly reform its economy and provide greater access to
its markets. Some China observers believe that the Chinese government considers accession
to the WTO as an important, though painful, step towards making Chinese firms more
efficient and able to compete in world markets. In addition, the government hopes that
liberalized trade rules will boost foreign investment in China, which has declined in recent
years. Economists argue that, over the long-run, greater market openness in China will boost
competition, improve productivity, and lower costs for consumers, as well as for firms using
imported goods as inputs for production. Economic resources will more likely be redirected
away from money-losing activities (such as SOEs) to more profitable ventures, especially
those in China’s growing private sector. As a result, China is likely experience more rapid
economic growth (than would occur under current economic policies). A study performed
by the Chinese government estimates that WTO membership would boost China’s GDP by
1.5% annually by 2005 and thereafter. On the other hand, however, the Chinese government
is deeply concerned with maintaining social stability. Many analysts warn that, if trade
liberalization were followed by a severe economic slowdown, leading to widespread
bankruptcies and layoffs, the Chinese government might choose to halt or delay certain
economic reforms, rather than risk possible political upheaval. An additional problem posed
by China’s WTO accession will be to get Chinese local and provincial governments to adhere
to WTO rules, since many of them impose a variety of protectionist policies to protect firms
under their jurisdiction.
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