The Rise of Middle Class in China

In 2013, China’s government announced the plan to enlarge the proportion of middle class, narrow the income gap, and develop the so called olive-shaped social structure. This was the first time that the word “olive-shaped society” was written into the official documents in China’s government

By Daniel Xu Jiayan, PhD Candidate, Department of Decision Sciences and Managerial Economics, CUHK Business School

In 2013, China’s government announced the plan to enlarge the proportion of middle class, narrow the income gap, and develop the so called olive-shaped social structure[1]. This was the first time that the word “olive-shaped society” was written into the official documents in China’s government.

The Olive-Shaped Society

In a typical society, there are three social classes. The first is the elite class that monopolizes power and capital. The second is the middle class, who makes a decent earning and possesses a good living standard. The third is the ordinary people who lack basic social security. An olive-shaped society occurs when the middle class outnumbers the other two classes in the society, forming the shape of an olive with fewer people at the top and at the bottom class.

Since China’s reform and opening up its economy, the income gap has become larger. In 1980 when the reform began, China’s Gini coefficient was only slightly over 0.2, putting China under the category of most fair countries in terms of residents’ income. However, in 2013, the Gini coefficient grew to 0.473. The major reason for the growth was that China introduced the competitive market mechanism to develop its economy, and focused on efficiency rather than fairness.

Kuznets’s inverted U-curve suggests that the income gap of one country would narrow when it becomes moderately developed. In its early-development stage, the capital and technology are more valuable resource due to scarcity; but as its economy develops, labor becomes a scarce resource, causing an increase in labor price, which narrows the income gap. According to Kuznets’s prediction, China’s income gap should narrow from the 21st century. However, the reality is that China’s income gap still increases after 2000. So the experience and principle derived from other developed countries seem unsuitable for China’s situation.

The Urban–Rural Income Gap

The factors that affect China’s income distribution are very different from those in other countries: the urban-rural gap explains about 60% of the Gini coefficient in China, which is much larger than other countries. In China, rural residents constitute 46 percent of whole population, but they only share about 10 percent of China’s GDP.

Why does the urban-rural gap play such a significant role? The main reason is that China has a very large population but only very little arable land. On the contrary, the farmers in Europe are much wealthier because they own much land. In China, however, it is very difficult for farmers to create the miracle of being rich with such little land.

The urban-rural income gap has narrowed in the recent years since the growth of rural residents’ income is faster than the GDP growth, while the urban residents’ income growth is much slower. Furthermore, the GDP growth of western China of the less developed regions such as Guizhou with GDP growth 10.8% has been faster than eastern China of the more developed regions such as Shanghai with GDP growth 7% in 2014 for a consecutive nine years[2]. However, the more severe problem now comes from the income gap between individuals with different occupations, and also between the younger and the older generations, even within the same region.

In the past, the main purpose of regulating residents’ income distribution is to promote fairness and guarantee everyone’s basic rights and living needs. However, the income gap in China has been so large that it hinders China’s economic development. Investments and export trades have contributed a lot to the China’s economic boom in the past few decades. However, now consumption has become the most important impetus for China’s further economic development, and income distribution is a very important factor for domestic consumption.

As some Chinese academics have observed that in China, the higher the family income, the lower the consumption rate[3]. For example, the consumption rate of 10 percent of the population of the lowest-income family is 98 percent whereas the consumption rate is below 30 percent for 10 percent of the highest-income group. As the income gap widens, although GDP is growing, more income will fall into the rich people’s pockets. As a result, poor people want to consume but have no money, while rich people do not want to consume much[4]. It definitely affects China’s economic development. In fact, the overall residents’ consumption rate in China has been shrinking for more than ten years, from 62.3 percent in 2000 to 49.1 percent in 2011, much lower than the world average rate 70%.

The Middle Class as the Leading Consumption Force

According to some Chinese academics and researchers[3], the middle class in China now constitutes about 28 percent of its population, and 46 percent of the total resident income. In other words, less than one-third of Chinese residents share nearly half of the country’s total income. We can say that the middle class has become the leading force for China’s domestic consumption. One percent increase of the middle class population brings about tens of millions of consumers. The middle class is a huge and fast-growing consumer market. In 2014, the Bachelor’s Day or “Double 11 Shopping Festival” (i.e., November 11) achieved record-breaking online sales of 57.1 billion RMB, and the majority of which comes from middle class.

Although the middle class in China has been playing an important role in China’s consumption and economic development, the proportion of the middle class is still too low, compared to other counties, especially in the developed countries. It is very difficult to further narrow the income gap without the middle class growth. Since in the west, the middle class should constitute about 42% of total population in a typical olive-shaped society, China still has a long way to go.

Building an Olive-Shaped Society in China

To enlarge the middle class and construct an olive-shaped society, China needs to increase the earnings of the low-income class, and create opportunities for the low-income class to move up to the middle class. The China government plays an important role in promoting such change. One way to do it is to continue its poverty reducing policy. There are over 100 millions of people in China living below the poverty line (i.e., USD 1.25 per day). The China government has a plan to reduce 10 millions of these people each year[4]. Furthermore, the government should try to help the majority of college graduates to move up to the middle class, considering that there are about 9 millions of college graduates every year.

To help college graduates move up in the social ladder, I think the Chinese government needs to upgrade its industry structure. In the past, many companies in China are contract manufacturing businesses (such as Foxconn and Flextronics) for multinational firms (such as Apple). The profit margins for these businesses are relatively low, as compared to R&D and branding. A lot of college graduates working at such low-margin companies are struggling with barely livable wages. China needs more companies which are focusing on R&D and branding and offering highly-skilled job opportunities for young people. This way, young graduates will have a chance to develop and move up to the middle class.

References:

[1]建立“橄榄型”收入分配格局 让更多人迈入“中等收入阶层”. Xinhua.com. November 16, 2013. http://news.xinhuanet.com/politics/2013-11/16/c_118165335.htm

[2] 2014年中国31省市GDP和财力排名.Xinhua.com. March 10, 2015. http://news.xinhuanet.com/fortune/2015-03/10/c_127564675.htm

[3] People’s Livelihood in Contemporary China: Changes, Challenges and Prospects. Edited by Li Peilin 2013, World Scientific.

[4] 2015全国两会政府工作报告. Xinhuanet.com. March 16, 2015. http://news.xinhuanet.com/politics/2015lh/2015-03/16/c_1114659488.htm