China's Shift to Scale Economy Advantages
The logic of economies of scale is that the larger the scale, the lower the per-unit cost. Manufacturing is a typical example of economies of scale. China's green industry development leads the world. As a part of manufacturing, the green industry not only brings economies of scale but also promotes market competition, generating a supply enhancement effect. At the same time, the combination of the digital economy and the green economy promotes the realization of a greater extent of economies of scale.
Land and real estate are typical examples of diseconomies of scale. The fundamental difference between real estate to the green economy and the digital economy is the transition from diseconomies of scale to new economies of scale .This adjustment is necessary and beneficial in the long run, but the current adjustment of real estate and debt exacerbates the problem of relative insufficient demand. At the same time, the trade protectionist pressure accompanying the rapid development of China's green industry should not be underestimated.
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To address the challenge of insufficient demand, he believes that it is possible to consider the issuance of currency through fiscal channels, changing the past pattern of mainly relying on credit channels for currency issuance.In terms of fiscal expenditure, it is possible to increase transfer payments aimed at vulnerable groups such as rural elderly people, increase public services and social security expenditures such as education and healthcare, increase subsidies aimed at encouraging childbirth, and include more unemployed people in the social security system. In terms of fiscal revenue, reduce the burden of social security contributions and the tax burden of value-added tax and other turnover taxes. Regarding the financing of fiscal gaps, in the short term, it is possible to consider issuing national debt to enhance the coordination of fiscal and monetary policies; in the long term, it is possible to adjust and increase property-related taxes.
From Diseconomies of Scale to New Economies of Scale
From carbon neutrality to the innovation economy, the "Belt and Road" initiative, the industrial chains of major countries, and artificial intelligence, the logical thread of a series of studies is to analyze the global economy, especially China's economic development, from the perspective of economies of scale.
From Land to Capital and Data
From Diseconomies of Scale to New Economies of Scale
The logic of economies of scale is that the larger the scale, the lower the per-unit cost. Manufacturing is a typical example of economies of scale, where increased demand is mainly reflected in an increase in quantity. A typical example of diseconomies of scale is the inability to increase per-unit output by increasing scale, such as land and real estate. The increase in demand for land cannot lead to an increase in output quantity, but can only be reflected in price changes, which means increased costs and squeeze on other industries, which is not conducive to overall economic development. Economies of scale and demand complement each other, promoting the improvement of people's living standards and economic growth.
From diseconomies of scale to new economies of scale refers to the transition from the diseconomies of scale in real estate to the new economies of scale in the green economy and the digital economy. This adjustment process, though bumpy, is necessary and beneficial in the long run. Of course, there are many concerns about real estate now, but the adjustment of real estate is to reduce the constraints of diseconomies of scale from the supply side, which is conducive to long-term economic development.
In the agricultural economy era, the factors of production were labor and land; in the industrial economy era, the factors of production were labor and capital; and in the knowledge economy era, the factors of production included labor, capital, and data. Observing the upward trajectory of human social development, the reason why the economy grew slowly and the improvement of living standards was limited in the agricultural age was due to the diseconomies of scale of land, which could not increase land supply to improve per-unit output. In the industrial economy era, with the injection of productive capital into manufacturing, economies of scale effects emerged, and the average per-unit cost decreased with the increase in annual output. Of course, investment alone is not enough; the key still depends on innovation and technological progress. If savings and investment were used in the steam age, the improvement in living standards would still be limited.
The role of technological progress in economies of scale lies in the spillover effect of the knowledge economy. The role of spillovers depends on the scale of the receiving carrier; the larger the scale, the greater the spillover effects of technology, knowledge, and innovation. The development of human society from the agricultural economy to the industrial economy and then to the knowledge economy, where the standard of living is an important indicator of development, is due to the transition from investment to innovation and then to technological progress, with economies of scale becoming more and more significant, such as the current knowledge economy and digital economy economies of scale being particularly prominent.
The Source of Insufficient Demand
Having supply alone is not enough; China is now facing insufficient demand. Theoretically, there are two sources of insufficient demand: one is income distribution, and the other is the monetary economy. Karl Heinrich Marx believed that the crisis of overproduction is a problem of insufficient consumption caused by the gap in income distribution, that is, wealth is increasingly concentrated in the hands of a few, and insufficient consumption leads to overproduction. However, different from Marx's theory of overproduction, neoclassical economics believes that supply can create demand, that is, surplus savings can be effectively transformed into investment, and there is no problem of oversupply. This theory is insufficient in explaining reality.
In 1936, John Maynard Keynes adopted a new perspective to study the Great Depression, providing a monetary economic perspective based on agreeing with Marx's explanation of income distribution. Keynes believed that money has the attribute of a safe asset, and people will naturally increase their demand for money when they lack confidence, while other demands will relatively decrease. Neoclassical economics regards money as a means of payment and believes that there is no substitutive relationship between the world economy and money; Keynes's liquidity preference theory is based on the perspective of money and regards money as a part of asset allocation. When the demand for money increases, the demand for risky investments and physical investments will correspondingly decrease, which is the root of the Great Depression.
An analysis of China's current problem of insufficient demand can be carried out around the design of public policies from two perspectives: income distribution and the monetary economy. First, the gap in income distribution is being continuously corrected, and in this process, fiscal policy should play an active role in truly transferring the resources released by high-income groups to low-income groups through monetary channels, that is, by narrowing the income distribution gap and achieving common prosperity through structural reforms. Second, the lack of confidence leads to an increased demand for money, safe assets, and bank deposits, and it is urgent to reverse this situation with counter-cyclical adjustments.
Structural reforms to narrow the income distribution gap and counter-cyclical structural reforms are integrated, and the two are not contradictory, and both require fiscal policy to play a role. In terms of income distribution, it is not only necessary to reasonably adjust the income of high-income groups but more importantly to increase the income of low-income groups, which can be achieved through fiscal transfer payments, taxation, and other means. In addition,it is also possible to consider the issuance of currency through fiscal channels, changing the past pattern of mainly relying on credit channels for currency issuance.
The current adjustment of real estate and debt means that the financial cycle is in a downward trend. The downward trend of the financial cycle has two impacts: on the one hand, the adjustment of the financial cycle helps to improve supply. The decline in land prices, rent, and housing prices will be transmitted to the price composition of Chinese manufacturing products through supply-side reforms, reflecting cheaper Chinese manufacturing products. On the other hand, the downward trend of the financial cycle will suppress demand, exacerbating the problem of relative insufficient demand.
Green Industry is a New Quality of Productive Forces
As a new quality of productive forces, green industry can generate a supply enhancement effect in the following aspects.
The first is from diseconomies of scale to new economies of scale. Fossil energy, as a natural endowment, is similar to the attributes of land, with exclusivity and competitiveness, cannot be shared, has high exploration costs, and shows typical characteristics of diseconomies of scale; while green energy belongs to manufacturing, which can achieve cost reduction and shows typical characteristics of economies of scale. The transition from fossil energy to green energy means an increase in the efficiency of the global economy.
The second is from monopoly to competition. Fossil energy is prone to forming international cartel organizations, which can exert certain control over prices, such as the Organization of the Petroleum Exporting Countries (OPEC) members who can control production and even raise prices through negotiations. In manufacturing, it is hard to imagine controlling prices by negotiating production reductions. The transition from fossil energy to green energy means moving from a monopoly to a competitive pattern, which is in line with the trend of economic history, that is, an important driving factor for technological progress and economic efficiency improvement in human society is moving from monopoly to competition.
The contribution of green industry to the global economy is immeasurable, and this process has just begun. The contribution of green industry to the supply side has far exceeded expectations. Green transformation is not something that "falls from the sky," nor is it spontaneously generated by market mechanisms. Green transformation generally faces two externalities: the negative externality of fossil energy and the positive externality of green technology. The negative externality of fossil energy means that the benefits of economic activities are obtained by individuals, while the harm of carbon emissions is borne by the whole society; the positive externality of green technology means that the investment in innovation is undertaken by individuals, and the spillover effect of technological progress benefits the whole society.
Correcting the above two externalities urgently requires public policy intervention, in short, carbon taxes and carbon prices on the demand side, and fiscal subsidies and emerging industry support on the supply side. The European Union's externality correction policy for green transformation belongs to the former, levying carbon taxes on the demand side and creating carbon markets; while the Chinese model provides fiscal subsidies on the supply side, promoting technological innovation and industrial development in the green field through related industry support policies, thereby providing green supply.
According to economic logic, the above two modes of externality correction policies are feasible. However, the West, deeply influenced by the mainstream thinking of neoclassical economics, arbitrarily believes that any government intervention is wrong and only the market is right, focusing on the demand side of carbon trading markets to correct externalities, which leads to missing the first opportunity in the development of new energy. China, on the other hand, has focused on the supply side of correction policies and has embarked on a successful path in the development of new energy. Of course, the accusations faced now are mainly due to geopolitical factors. The United States, situated between the European Union and China, is also learning from China, introducing the Inflation Reduction Act, and formulating strategies to ensure the supply chain for the transition to clean energy.
Green energy belongs to manufacturing and thus has the characteristics of economies of scale in manufacturing.A n important reason is that the proportion of equipment costs in green energy is high. Structurally, the cost of electricity generation can be divided into equipment costs, operation and maintenance costs, and fuel costs. In the cost composition of coal and gas electricity generation, fuel costs account for a high proportion, with equipment costs accounting for only about 40% and 20%, respectively; while in the cost composition of wind power, photovoltaics, and nuclear power generation, equipment costs account for a higher proportion, at about 80%, 90%, and 60%, respectively.
The digital economy will amplify the economies of scale effect of the green industry.The digital economy naturally has scale effects and network effects, and the input of data as a factor of production is conducive to reducing the marginal cost of green products and strengthening their service attributes (such as autonomous driving). The proportion of digital technology-related costs for new energy vehicles and fuel vehicles is 72% and 22%, respectively, compared to which, the economies of scale effect of new energy vehicles is more significant. Traditional high-end fuel vehicle companies are also exploring in-vehicle intelligence, but not through the digital economy network, so they can only make up for the gap to a certain extent.
The digital economy is not just about simply implanting advanced chips; it requires attracting more participants to enter the network to enjoy the benefits of economies of scale and leverage network effects. China's advantage is based on this: a large population and a large economic volume. The digital economy is one of China's advantages, and by combining the digital economy with the green economy, it promotes the realization of a greater extent of economies of scale.
China's green industry development leads the world. In 2023, China's electric vehicle sales accounted for nearly 60% of the global total, and China's photovoltaic module production capacity accounted for 80% of the global total. In the international trade division of labor, China has the advantage of economies of scale. International trade and the distribution of the global industrial chain are mainly determined by three factors: resource endowment, economies of scale, and transaction costs. Resource endowment determines the type of comparative advantage of a country, such as labor-intensive, capital-intensive, and natural resource-intensive. Economies of scale are divided into internal and external, and the trade between economies with similar levels of economic development and income levels cannot be explained by resource endowment; the driving force is the expansion of the division of labor to increase scale and thus improve efficiency. Transaction costs include transportation costs, tariffs, non-tariff measures, geopolitics, and so on.
China's early advantage was the low cost of labor. As the cost of labor continues to rise, the current advantage has shifted to economies of scale, which is not only reflected in the significant improvement of domestic supply efficiency but also extends to international trade, benefiting the global economic supply. The economies of scale effect here specifically refers to the low-cost competitive advantage of large countries and pioneers, which can achieve rapid expansion of production capacity. In the manufacturing sector, it is reflected as the larger the scale, the lower the per-unit cost; in the public service sector, it is reflected as the more users, the lower the per-unit cost; in the field of scientific and technological innovation and progress, it is reflected as the public goods attribute of innovation will amplify the economies of scale effect.
The trade protectionist pressure accompanying the rapid development of China's green industry should not be underestimated.
Policy Recommendations for Meeting Challenges
There are two channels for currency issuance: credit and fiscal. The currency issuance through the credit channel is mainly through bank loans, and currency retraction is achieved when the loan is repaid to the bank; the currency issuance through the fiscal channel is mainly through government expenditure, and currency retraction depends on government taxation or the central bank selling government bonds. In the past, the main channel for China's currency issuance was credit. Recently, the decline in the growth rate of broad money (M2) indicates weak credit demand. When dealing with the epidemic, the United States shifted from the credit channel to the fiscal channel for currency issuance and achieved significant results, so China may consider following the example of the United States.
According to my calculations, the proportion of real estate-related loans, including both public and personal, to new loans has already been negative, and the highest point of this proportion occurred at the National Financial Work Conference in 2017, which was about 45%. Against the background of the reduction of real estate loan ratios, although China's financing contraction is relatively large, it has maintained the bottom line of not a systemic financial crisis, mainly thanks to policy finance, that is, loans issued to infrastructure, manufacturing, inclusive finance, and green fields. Since 2019, the proportion of inclusive and green loans has doubled, which helps to maintain macroeconomic monetary stability.
However,the effect of policy finance on economic growth is limited, mainly for two reasons: on the one hand, enterprises do not represent the final demand, and providing too many loans to enterprises will instead exacerbate overcapacity; on the other hand, currency issuance through the credit channel bypasses the interest rate reduction process and merely increasing the money supply is not enough to effectively promote credit demand.
Fiscal policy can be an effective point of effort to promote consumption.I n terms of fiscal expenditure, it is possible to increase transfer payments aimed at vulnerable groups such as rural elderly people, increase public services and social security expenditures such as education and healthcare, increase subsidies aimed at encouraging childbirth, and include more unemployed people in the social security system. In terms of fiscal revenue, reduce the burden of social security contributions and the tax burden of value-added tax and other turnover taxes. Regarding the financing of fiscal gaps, in the short term, it is possible to consider issuing national debt to enhance the coordination of fiscal and monetary policies; in the long term, it is possible to adjust and increase property-related taxes. Because China and the United States have different national conditions, China does not need to follow the American approach of giving out money all at once but can consider reforming the social security system design. Gradually establish a sustainable mechanism for transfer payments to vulnerable groups such as rural elderly people to strengthen expectations and increase confidence, thereby stimulating consumer demand.