Developing the Real Economy

From: English Edition of Qiushi Journal Updated: 2012-10-08 14:32
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I. The relationship between the real economy and the virtual economy is an issue of global significance

A major feature in the development of a modern economy is the considerable development of a monetary and financial system on the basis of agriculture, industry, and other sectors of the real economy, which leads to the increasing financialization of the entire economy. However, in some countries, the sharp increase and virtualization of financial capital has inevitably led to the hollowing-out of the real economy, giving rise to an unstable structure whereby the virtual economy outweighs the real economy. 

Since the latter half of the last century, many developed countries have become increasingly dependent on finance. Faced with a lack of vitality and innovation in their industries and waning international competitiveness, these countries have become increasingly reliant on financial operation and macroeconomic policies as a means of sustaining economic growth. However, the adoption of stimulus and easing policies, which is tantamount to eroding the monetary standard and relaxing fiscal controls, encourages the unchecked expansion of the virtual economy in order to compensate for the decline of the real economy. This imbalance between the virtual and real economies can be regarded as one of the fundamental causes of the global financial crisis and the ongoing recession at present. The over-bloated financial systems in these countries eventually collapsed due to their loss of confidence in the real economy. In a bid to save their failing financial systems, however, these countries have had no choice but to adopt a policy of monetary easing, even though this will eventually do more harm than good. To this day there is still no end in sight. 

The excessive dependence on finance demonstrated by developed countries since the outbreak of the international financial crisis has inevitably had an impact on China’s open economy. In fact, China’s economy has also shown signs of overreliance on finance. For example, some enterprises have acquired private capital through banks and the stock market to fund their rash expansion, while others have relied on non-core business investments in the financial sector and real estate to gain profits. As a result, national resources have entered the virtual economy in increasing amounts, and in turn this has led to the financialization of assets and the emergence of an asset bubble. Against this backdrop, speculation has become prevalent, and a small minority who have made it rich overnight have become the subject of much admiration. This is undermining the foundation for the steady development of the real economy. 

The original purpose of financial activities was to serve the real economy and support the development of industries in the real economy. But if this relationship is turned on its head and the real economy becomes a medium for financial speculation, the economy will lose its long-term competitiveness and basis for growth. 

II. The real economy is the major driving force for the sustainable and stable growth of the economy

The fundamental purpose of human economic activities is to satisfy the ever-growing material and cultural demands of the people. Therefore, all economic activities that bear practical significance form a part of the real economy. The direct acquisition of resources from nature by humans is what we refer to as primary industry. In a modern economy, however, the lack of demand elasticity and relatively low growth rates in the primary industry will cause the gradual decrease of primary industry in proportion to overall economic output.

The conversion of natural materials acquired through primary industry into various goods and products is what we refer to as secondary industry. This sector primarily comprises of industry, construction, and the supply of water and power. The single most important aspect of secondary industry is the manufacturing industry. In a modern economy, the demand elasticity for products in the secondary industry is considerable. In this industry, the widespread utilization of inventions in science and technology is able to boost labor productivity and lower unit costs whilst increasing output by significant margins. Periods of industrialization have witnessed faster economic growth and greater wealth accumulation than any other period in human history.


Well-known private enterprise Sany Heavy Industry demonstrates its gigantic robot excavator at Lingang Industrial Park on March 24, 2012. Located on the shores of the East China Sea, the Lingang Industrial Park in Shanghai launched its first project in 2005. By the end of the Eleventh Five-Year Plan (2010), a total of 75.6 billion yuan had been invested in fixed assets involving industrial projects, infrastructure, and social programs; and 154 industrial projects had been introduced, representing a total investment of more than 60 billion yuan and a planned output value in excess of 120 billion yuan. As a leading national center of advanced manufacturing, the Lingang Industrial Park boasts industrial manufacturing bases for nuclear power equipment and other new energy equipment, key components for large ships, marine engineering equipment, automobiles and automotive components, and heavy-duty engineering machinery. The area is also home to a number of world-class factories. In addition, a central base for the final assembly and testing of domestically made large aircraft engines and a base for high-end intelligent equipment used in all-in-one machine tools are beginning to take shape. / Photo by Xinhua reporter Chen Fei

Economic activities that fall outside the primary and secondary industries are referred to as tertiary industry. The tertiary sector mainly comprises of the following three areas: The first area is direct services, in which people provide services directly via their physical labor and skills. Sustained increases in labor productivity are generally hard to achieve with these services, which display a tendency for prices per unit of output to increase. The second area is industrial services, or in other words, services which are supported by industrial technologies. Labor productivity in this sector increases along with constant innovations and progress in industrial technologies, which means that prices per unit of output are likely to drop. The third area is financial services, which refers to economic activities involving monetary and financial operation. The nature of this sector is to serve the primary and secondary industries. However, it is also possible for this sector to expand and give rise to a large number of financial derivatives, thereby leading to the financialization of products in the primary and secondary industries.

The first aspect of the tertiary industry as mentioned above is generally referred to as the traditional service industry, while the second and third aspects tend to be classed as the modern service industry. In the broad sense, the real economy comprises of the primary industry, the secondary industry, the direct service industry, and the industrial services industry. During the process of industrialization, the primary constituent of the real economy is the secondary industry, especially the manufacturing industry, which acts as the major driving force behind economic growth. As the economy develops, the proportion that the tertiary industry accounts for in the economy will increase on a constant basis. This is an inevitable trend that will emerge when the right conditions are in place. On one hand, a more developed industrial foundation allows for the accelerated development of industrial services. On the other hand, the dropping price of industrial products and increasing price of services result in a significant rise in the proportion of tertiary industry according to current prices. Given the realities of China’s current stage of development, however, it is not realistic for us to overemphasize the role of the service industry in securing economic development. Moreover, turning to the virtual economy to stimulate economic growth at this stage could even lead to numerous risks.

It should be emphasized that the development of the financial sector as a part of the tertiary industry is of practical significance when it is limited to serving the real economy. Within these boundaries, the services provided by the financial sector are conducive to the growth of the real economy. However, the self-expansion of the financial sector beyond this point will encourage the excessive financialization of products and assets in the real economy. In turn, this will create a bubble in the virtual economy, which, like a “black hole,” will draw in and trap large amounts of social resources. The development of this bubble will ultimately jeopardize the normal operation of the real economy and give rise to huge financial risks.

III. A developed real economy is essential in resolving the major issues that China faces

The significance of developing the real economy cannot be doubted. However, given that China is already the world’s largest manufacturer and that there are already surpluses in some of its industries, is it really necessary for China to further develop its industry? Does it have the potential to do so? In fact, the reality in China tells us that there is both a pressing need and a huge potential for the continued development of industry in China. It is imperative that China lays down solid foundations for the development of its real economy.

First, China still faces a major task in the development of both urban and rural areas during the process of urbanization. For example, the level of development and infrastructure in China’s vast rural areas not only lags far behind that of developed countries, but is also far behind urban areas within China. For this reason, China is still facing a huge task in urban and rural development and the construction of infrastructure, and these initiatives must be founded on the large-scale production and supply of industrial products. In other words, China’s urbanization must be based on the rapid development of industry.

Second, the major economic and social issues that China is currently facing can only be resolved once China has achieved a developed industrial production capacity and advanced industrial technologies. Industrial growth is often blamed for depleting resources and damaging environments. However, if China does not pursue the further development of its industry, these problems will inevitably become much worse than they already are, and we will have absolutely no means of resolving them. Therefore, the only way that China can resolve the resource and environmental issues that emerge during the process of modernization is by establishing a more developed industrial system and developing more advanced industrial technologies.

Third, China will need an advanced industrial base and industrial system before it can establish itself as an innovative country. Industry is a key medium for technological innovation. Industry not only serves as the most important field for technological innovation, but also acts as a foundation for technological advances in the primary and tertiary industries through the development and application of industrial technologies. In essence, modern agriculture can be regarded as the large-scale application of technology on the basis of industrialization.

Fourth, the majority of strategic emerging industries are found in manufacturing, especially high-end manufacturing, which is a part of the real economy. Even strategic emerging industries in the service sector rely on advanced manufacturing as a foundation and source of technology. Therefore, China’s efforts to foster new industries and develop the backbone and leading industries of the future are very much dependent on the further development of advanced manufacturing.

IV. Industries in the real economy must be modernized in all aspects through a process of transformation and upgrading

During the period of the Twelfth Five-Year Plan, the real economy will be charged with the enormous task of seeing through China’s industrial transformation and upgrading. This is particularly the case for industry, which is the core of the real economy. However, we must bear in mind that the transformation and upgrading of China’s real economy will involve the industrial modernization of all aspects of the real economy, and not just changes to certain industries.

It is crucial that we do not make an absolute distinction between traditional industries and high-tech industries as we implement policies on industrial transformation and upgrading. Deploying advanced new technologies to upgrade our traditionally strong industries is an effective means of making our industries more competitive in the international market. This is a successful practice that has been demonstrated by several developed countries with strong real economies.

The level of technology in industry can be interpreted in two different ways. First, it can refer to the differing extent to which technology is applied in different industries, which is determined by the physical properties of the industry in question. Second, it can refer to the differing level of technology that has been attained within a certain industry. We should never automatically assume that industries with high technical application are high value-added, while industries with low technical application are low value-added. All industrial chains have a low end and a high end, and this means that climbing the industrial chain is something that can potentially be achieved in any industry. Even at the low end of an industrial chain, companies can demonstrate a high level of competitiveness provided that their products are of excellent quality and their brands are influential. It is therefore clear that “high-end” and “low-end” are relative concepts in industry and industrial chains that should not be taken too literally. Highly competitive companies with leading technologies and techniques can be found in any industry.

The enormity of China’s task lies in the fact that it must promote industrial transformation and upgrading in both aspects of industrial technology as mentioned above. In view of the current structure of China’s labor force, the only way that we can improve the employment situation on a sustained basis is by promoting the balanced development of various industries. Ensuring sufficient employment is not only the top priority of our efforts to improve public well-being, but is also one of the ultimate goals of industrial transformation and upgrading.

V. The key to developing the real economy is improving relevant institutions and mechanisms

China has promoted its reform and opening up drive on a step-by-step basis and pursued development with a differential approach. The result of this approach is that differential institutions and policies have long existed in China. Under such institutional circumstances, China’s stunning achievements in industrial development have come at a heavy price. Many of the conflicts and difficulties that China has experienced during the course of industrial development are the result of lagging and insufficient reform in other sectors. These problems have posed an obstacle to the deepening of industrial reform.

In the long term, China must make a timely transition from a step-by-step approach to reform and opening up to a comprehensive and fully coordinated approach. In particular, China must act quickly to address a situation in which industry has surged ahead while other sectors have lagged behind during the course of reform and opening up. At the present, we must promote the uniform acceleration of reform and opening up in all sectors, lay particular emphasis on removing the barriers that are impeding the development of the real economy, and work quickly to establish institutions and mechanisms that will allow our taxation and financial systems to better serve the real economy.

In order to address the conflicts and issues present in the development of the real economy during the Twelfth Five-Year Plan, not only must we give full play to the basic role of the market in the allocation of resources, but we must also develop a sound decision-making system for matters of public interest. Doing this will help us to prevent the deviation of reform policies, thereby guaranteeing the fairness and effectiveness of the socialist market economic system. Fundamentally speaking, only with institutions and mechanisms that are conducive to social equality and justice will China be able to draw on market competition to form an effective and reasonable economic structure, ensure the coordinated development of the real economy and the virtual economy, and realize the long-term and steady growth of the economy.

(Originally appeared in Qiushi Journal, Chinese edition, No.7, 2012)

Author: Academy Member and Head of the Institute of Industrial Economics of the Chinese Academy of Social Sciences


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