Shanghai FTZ and China’s Shift Into Services and Consumption

To gradually transition its economy from an export- and investment-based growth model to domestic consumption and services last September, Chinese authorities announced the creation of the China (Shanghai) Pilot Free Trade Zone (hereafter Shanghai FTZ). After three decades of double digits annual GDP growth rate, the Middle Kingdom decelerated to approximately 7.7 % annual growth rate due to rising labor cost and sluggish growth in major export markets. Therefore, this shift is part of China’s ambition to revitalize and diversify its economy.

Since the Tenth Five-Year Plan and its 2001 WTO membership, China has been devoted to expanding and liberalizing its services sector to spur its manufacturing-dependent economy and avoid the middle-income trap. There is a clear correlation between the rise in level of income per capita and the share of services sector in total output (% of GDP). For instance, the share of services sector in total output as grown from 23.9% and 67% in the early 1980s to 43% and 80% in 2010, respectively, in China and the United States. Thus, a rise in personal income also leads to higher discretionary spending and consumption.

Although Beijing has removed certain restrictions on the services sector, strict barriers remain. Unlike barriers on trade in goods/merchandises, services sector barriers are difficult to track and measure due to their nature. Using the World Bank’s Service Trade Restriction index (STRI), however, we can infer that China has strict protection on trade in services compared to the 103 countries surveyed between 2008 and 2010 (Borchert et. al. 2012a). STRI covers six service industries: financial, telecommunications, retail, transportation, and professional services. Based on STRI findings, it is imperative for China to further liberalize its services sector to diversify its economy, allow competition, increase economic efficiency, and create well-paying jobs.

Since the September announcement, Shanghai municipal authorities have developed a negative list and put an emphasis on the following six sub-sectors: transportation, finance, shipping, professional services, culture, and entertainment. According to its Framework Plan, Shanghai FTZ’s overall objective is expedite the functional transformation of government, open up services, promote the reform of foreign investment administration system, and develop the economy. Chinese authorities are determined to use Shanghai FTZ as a laboratory to transform the economy, as they did in the early 1980s in Shenzhen and elsewhere.

A shortage of well-qualified workers in the services sector remains a concern in China, however. Even though its pool of university graduates is humongous, few graduates of Chinese universities are considered well-qualified. According to a survey of 600 executives based in China, for example, their top concern remains the lack of high-skilled workers. As recently highlighted by China Daily, almost half of enterprises from industries such as technology have reported difficulties in hiring skilled workers. This shortage would also negatively impact Shanghai’s intent to usurp Hong Kong and Singapore as main regional financial centers.

After 35 years since Deng Xiaoping’s economic reforms and liberalization, the Chinese economy is running out of steam and is in need of reforms. Shanghai FTZ is China’s response to upgrade the economy and become a high-income country. Thus, services sector liberalization is a move toward the right direction. However, further economic liberalization and reforms, especially regarding the services sector, currency convertibility, and State-Owned Enterprises (SOEs) are necessitated to provide a boost to the Chinese economy and environment.

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