Note: This article is an abridged version of an in-depth country study produced as part of the Prosperity Index project of the Legatum Institute. Complete versions of all 12 are available on the Institute website.
For much of the five centuries in which China has showed its face to the West, foreigners have been preoccupied with how to make money in the Middle Kingdom. The dream seems especially vivid right now, as China hints that it is reinventing itself as a consumer economy.
But that transition won't be easy. First, to move the economy into the big leagues, it will need to build supporting institutions ranging from comprehensive pension and health care systems to far more sophisticated financial markets. Second, China will need to change from a dazzlingly successful export machine to a balanced economy that both meets the needs of domestic consumers and plays a stabilizing role in the global economy. Third, it must manage its growing geopolitical power and hunger for raw materials carefully in order to preserve the benefits of global economic integration.
FIRST PHASE: 1978 - 1989
Post-revolutionary China first strayed from its ideological redoubt in 1978 -- the year Deng Xiaoping cautiously led his impoverished nation away from 29 years of central economic planning and state ownership. Back then, state enterprises made up 78 percent of the China's productive capacity, and collectives owned the rest. One billion Chinese lived (and sometimes starved) on collective farms. Per capita income was around $500 a year in today's purchasing power.
First, farmers were permitted to choose which crops to plant; later they were paid for what they grew on their own plots. And they were paid more generously, reversing a strategy developed by Lenin to extract every last crumb from agriculture in order to feed heavy industry. Agricultural production doubled in a decade, even as underemployed farm workers streamed to the cities.
Industrial reforms followed agricultural. Deng created special export zones that welcomed foreign investors and by 1984, they were thriving in 14 coastal cities. Deng had put the country on a path to a mixed socialist-capitalist economy without sacrificing any political control.
Contemporary China's first phase of development ended with a bang at Tiananmen Square on June 4. Foreign investors paused after the United States and other nations imposed sanctions on China. But not for long -- which brings us to the period in which China became the factory to the world.
SECOND PHASE: 1990 - 2008
Foreign direct investment took off, rising from $5 billion in 1990 to close to $100 billion annually by late in the last decade. Beijing (correctly) viewed foreign business as the key to transferring the management techniques and advanced technology needed to leapfrog a long period of industrial trial and error. What's more, it needed to find jobs for tens of millions displaced by the agricultural reforms.