What China can learn from Japan on cleaning up the environment?

Date: 2015-10-07; view: 531.

Analyses of China veer wildly between the awestruck and the apocalyptic, between the view that the country has achieved wholly exceptional and unstoppable economic growth and that its growth must end in disaster, probably soon. Lately, the polluted environment has taken pride of place in the apocalyptic argument, on the theory that China's current economic model is unsustainable, whether because of the domestic implications of dirty growth, the planetary implications, or both. The worldwide focus on the country during the recent Beijing Olympic Games gave greater prominence than ever to these environmental issues.

But both the awestruck and the apocalyptic analyses miss the blend of helpful precedent and hard-fought adaptation that has guided China's course since market-based liberalization began, in the 1970s. Far from being unprecedented, the broad shape and nature of the country's growth from the 1980s onward has been pretty similar to the pattern shown in earlier decades by Japan, South Korea, Taiwan, and other East Asian success stories. Like them, moreover, China has had to adapt constantly as circumstances changed and new challenges arose to confront policy makers and managers alike.

In the late 1980s, the country was roiled by hyperinflation and the post-Tiananmen reform crisis; in the 1990s, by the mountain of nonperforming bank loans and the huge task of closing or selling off state-owned enterprises. Today's vast pollution problem is just the latest in a series of obstacles that have fed the pessimistic tendency in Western commentary. The fact that China succeeded in overcoming past obstacles doesn't guarantee future success, of course. But the good news is that China's current situation is not at all unprecedented. To its east lies a country that provides an excellent road map for policy makers and executives who wish to measure how China can come to grips with its environmental problems during the next decade. This country is called Japan.

During the current decade, China's economy has become almost a caricature of the East Asian model pioneered by Japan and South Korea. Investment has surged, taking the share of capital formation in GDP to 45 percent. High and rising domestic savings, accumulated by households, companies, and the government, have made that level of investment easy to finance. The renminbi, undervalued by most measures, has been allowed to appreciate only modestly and only since 2005. An extraordinary $2 trillion in foreign-exchange reserves has been built up to keep the currency cheap, even as the surplus on the current account of China's balance of payments has climbed to more than 9 percent of GDP.

Yet for all the success of that low-cost, cheap-currency, high-investment model, China now faces challenges. The first is a sudden swing, in the past two years, from deflation to quite rapid inflation driven not only by oil and food prices but also rising wages. The second is a sharp worsening of air and water pollution, because resource- and emission-intensive heavy industries—such as aluminum, chemicals, and steel—have led the country's economic growth. Until 2002, China's energy intensity (energy used per unit of GDP) had been declining for two decades. Since then, it has been rising, along with emissions of greenhouse gases. In 2007, China overtook the United States as the world's biggest producer (in absolute terms, rather than emissions per head).

It looks daunting—and it is. But the challenges are also strikingly similar to those that beset Japan's economy as it entered the 1970s. Like China now and South Korea in the 1980s, Japan, in its high-growth years of the 1950s and '60s, pushed its economy through investment, which rose to 40 percent of GDP in 1970. Under the Bretton Woods system, the yen enjoyed a fixed rate against the dollar, and this made the country's currency more and more undervalued as Japanese industry became increasingly competitive. Fixed exchange rates and capital controls prevented Japan from building up current-account excess and foreign-exchange reserves as large as China's today. Nonetheless, the excess caused international friction, especially with the United States. Meanwhile, environmental problems caused domestic friction.

Most of the beautifully scenic Inland Sea was hopelessly dirtied by the so-called red tides of polluted waters from the factories on its shores. Smog warnings became regular and asthma sufferers began trekking to the hospitals. Regional complaints and petitions about pollution, about 20,000 in 1966, had risen to 76,000 in 1971. . . . In the south, hundreds of people fell ill from eating the local fish. Many died. Similar problems occurred in the north, with mercury-filled drainage from one factory and where a painful bone disease was caused by cadmium.

If you look at a photograph taken in a Japanese city in 1970—Tokyo, Osaka, or Kitakyushu, or any city with industry right at its heart—you will find a strong resemblance to most big Chinese cities today, including Beijing, Guangzhou, Shanghai, and Chongqing. In these photos, the air is thick with smog and dust. The rare days when blue skies could be seen were causes for celebration. If you go to any of those Japanese cities now, however, the air is completely different. Blue skies are no longer a rarity, people need wear face masks only when they suffer from colds, not in an attempt to filter out pollution (as they did during the 1960s), and it is no longer hazardous to be a traffic policeman.

The coincidence of inflation and environmental protests made Japanese industry's sharp move upmarket inescapable. This move was also extremely successful, leading the way toward a further decade and a half of world-beating growth. At first, it was tough for the economy as a whole, but the Japanese government's strong fiscal position enabled it to run growth-supporting deficits for much of the next decade.

China's central-government policy makers have already shown, through their speeches, that they too see inflation and the environment as the biggest obstacles the economy must now surmount. The ground has been prepared for changes both in macroeconomic and environmental policy. If they are carried out in both areas, the two sets of changes would reinforce each other. Without a faster revaluation of the renminbi, monetary policy will not come to grips with inflation, as interest rates will have to stay too low. Without greater central-government control over local authorities, environmental laws will not be enforced. Most of all, without powerful market signals that the low-cost, resource- and capital-intensive phase of China's development is over, neither private enterprises nor state-owned ones (which dominate heavy industry and are the biggest polluters) will move upmarket and clean up their processes.

Like Japan in the 1970s, China has the advantage of strong public finances, which can support the economy through its next transition and finance an environmental cleanup. Like Japan in those years as well, China is a country where the state plays a large role, which could influence industrial restructuring and investment in R&D. Unlike Japan, China could benefit from the worldwide concern over climate change: just as in the 1990s membership in the World Trade Organization was used to overcome domestic opponents of reform, so too negotiations over global climate change could now be used to overcome resistance to environmental enforcement. The biggest difficulty is that in China, unlike Japan, neither politics nor policy is tightly centralized—they cannot be, given China's scale and complexity. Beneficial change won't come easily. But it can indeed come.

https://www.mckinseyquarterly.com/What_China_can_learn_from_Japan_on_cleaning_up_the_environment_2191