The Hangover From China’s Urbanization Boom

Authored by Andrew Batson and Tom Miller of Evergreen Gavekal,

As China’s leaders in recent weeks have laid out an ambitious agenda for market-driven economic reforms, one element has been strangely lacking: urbanization. Premier Li Keqiang made this his signature issue during his years as deputy to the former premier, and has frequently talked up the potential for urbanization to drive China’s future growth. Yet, a coherent urbanization policy has been nowhere to be found, as Li’s desire for a healthier, more “people-focused” mode of urban growth clashed with local governments’ desire to keep spending on infrastructure and real estate.

This logjam looks to have finally broken over the weekend, when top Chinese leaders held both the annual Central Economic Work Conference to set policy goals for 2014, and a Central Urbanization Work Conference to lay the groundwork for an urbanization plan to be published next year. On balance, the news from these events is good for current and future residents of Chinese cities—but bad for those investors who may still be bullish on commodity prices.

As the chart below shows, the acceleration in urbanization over the last decade was accompanied by a rise in global commodity prices, thanks to a surge in raw material demand from construction. However, the pace of physical urbanization is far more likely to slow than to accelerate—a trend already reflected in the flat performance of global commodity prices. Rather than dreaming up new ways of driving urban expansion, the leadership in Beijing has become increasingly concerned about the excesses committed by city governments who all want to be the next Shanghai. “Not every city can become a giant,” warned the statement released from the urbanization conference. It emphasized that urbanization is a natural economic process, and that the government should be removing artificial barriers rather than trying to force urban growth through administrative decrees.

At the Central Economic Work Conference held a year ago, the top six priorities included a call for “actively promoting” urbanization since it has “the most potential for expanding domestic demand.” At this year’s conference, promoting urbanization did not make it into the list of priorities at all; in its place was a call to control the risks of the debts accumulated by local governments in their heedless drive for expanding cities. The change in direction could not be clearer. Rather than try to launch a new round of urbanization-led growth, the new leadership is instead focused on cleaning up the social and financial consequences of the past decade’s urbanization boom. The issues that need tackling include: a marginalized population of rural migrant workers; high local government debt; an oversupply of housing in many cities.

As we have long argued, the issue that China faces is not that urbanization is too slow and needs to accelerate, but that the urbanization that is happening is incomplete. Ineligible for core urban services like education and healthcare, most rural migrants find it hard to settle down permanently in cities or advance into higher-paying white-collar jobs. The “new-style” and “people-focused” urbanization that Premier Li has been promoting is essentially about better integrating existing migrants into the urban economy and society. Ultimately this is a question of money: allowing rural migrants to access the same benefits as existing urban residents will require new sources of and structures for public spending. The details of how this change will work are still unclear, but will likely involve both the central government taking more fiscal responsibility for public services, and local authorities getting more fund-raising powers.

As these problems are sorted out, the pace of urbanization will decelerate—a natural consequence of the slowdown in overall economic growth, and therefore of the job creation that drives rural-urban migration. The urban population has grown by about 21mn people a year since the late 1990s. Some scholars at the Development Research Center, a government think tank, expect the rate of urbanization is unlikely to exceed 17mn a year over the next decade—though we are somewhat more optimistic. In any case, the “people-focused” urbanization strategy will show up more as gains in urban incomes and consumption than as another surge in urban population growth and construction.